Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, NIO Inc. (NYSE:NIO) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is NIO's Net Debt?
As you can see below, at the end of March 2021, NIO had CN¥13.9b of debt, up from CN¥11.5b a year ago. Click the image for more detail. But on the other hand it also has CN¥47.2b in cash, leading to a CN¥33.4b net cash position.
A Look At NIO's Liabilities
Zooming in on the latest balance sheet data, we can see that NIO had liabilities of CN¥17.0b due within 12 months and liabilities of CN¥13.6b due beyond that. Offsetting this, it had CN¥47.2b in cash and CN¥1.68b in receivables that were due within 12 months. So it can boast CN¥18.2b more liquid assets than total liabilities.
This short term liquidity is a sign that NIO could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that NIO has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine NIO's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Over 12 months, NIO reported revenue of CN¥23b, which is a gain of 202%, although it did not report any earnings before interest and tax. When it comes to revenue growth, that's like nailing the game winning 3-pointer!
So How Risky Is NIO?
While NIO lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow CN¥823m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. Keeping in mind its 202% revenue growth over the last year, we think there's a decent chance the company is on track. We'd see further strong growth as an optimistic indication. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that NIO is showing 2 warning signs in our investment analysis , you should know about...
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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