Is Shopify (NYSE:SHOP) Using Debt Sensibly?
The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Shopify Inc. (NYSE:SHOP) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for Shopify
What Is Shopify's Net Debt?
The chart below, which you can click on for greater detail, shows that Shopify had US$913.3m in debt in December 2022; about the same as the year before. But it also has US$5.09b in cash to offset that, meaning it has US$4.17b net cash.
How Healthy Is Shopify's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Shopify had liabilities of US$856.0m due within 12 months and liabilities of US$1.66b due beyond that. On the other hand, it had cash of US$5.09b and US$486.9m worth of receivables due within a year. So it actually has US$3.06b more liquid assets than total liabilities.
This surplus suggests that Shopify has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Shopify 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 Shopify'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.
In the last year Shopify wasn't profitable at an EBIT level, but managed to grow its revenue by 21%, to US$5.6b. Shareholders probably have their fingers crossed that it can grow its way to profits.
So How Risky Is Shopify?
By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Shopify lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of US$186m and booked a US$3.5b accounting loss. While this does make the company a bit risky, it's important to remember it has net cash of US$4.17b. That kitty means the company can keep spending for growth for at least two years, at current rates. Shopify's revenue growth shone bright over the last year, so it may well be in a position to turn a profit in due course. Pre-profit companies are often risky, but they can also offer great rewards. 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 Shopify 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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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