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Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, eXp World Holdings, Inc. (NASDAQ:EXPI) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is eXp World Holdings's Net Debt?
As you can see below, at the end of December 2020, eXp World Holdings had US$4.29m of debt, up from US$2.45m a year ago. Click the image for more detail. But it also has US$100.1m in cash to offset that, meaning it has US$95.9m net cash.
How Strong Is eXp World Holdings' Balance Sheet?
According to the last reported balance sheet, eXp World Holdings had liabilities of US$96.7m due within 12 months, and liabilities of US$2.95m due beyond 12 months. Offsetting these obligations, it had cash of US$100.1m as well as receivables valued at US$77.0m due within 12 months. So it actually has US$77.5m more liquid assets than total liabilities.
Having regard to eXp World Holdings' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the US$5.35b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that eXp World Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.
Although eXp World Holdings made a loss at the EBIT level, last year, it was also good to see that it generated US$32m in EBIT over the last twelve months. 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 eXp World Holdings'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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. eXp World Holdings may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last year, eXp World Holdings actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.
While we empathize with investors who find debt concerning, you should keep in mind that eXp World Holdings has net cash of US$95.9m, as well as more liquid assets than liabilities. The cherry on top was that in converted 358% of that EBIT to free cash flow, bringing in US$113m. So is eXp World Holdings's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example - eXp World Holdings has 2 warning signs we think you should be aware of.
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
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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