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. We can see that Twilio Inc. (NYSE:TWLO) does use debt in its business. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
What Is Twilio's Net Debt?
As you can see below, at the end of June 2019, Twilio had US$464.2m of debt, up from US$423.1m a year ago. Click the image for more detail. But it also has US$1.88b in cash to offset that, meaning it has US$1.42b net cash.
How Strong Is Twilio's Balance Sheet?
We can see from the most recent balance sheet that Twilio had liabilities of US$201.8m falling due within a year, and liabilities of US$610.5m due beyond that. Offsetting this, it had US$1.88b in cash and US$126.8m in receivables that were due within 12 months. So it can boast US$1.20b more liquid assets than total liabilities.
This short term liquidity is a sign that Twilio could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Twilio has more cash than debt is arguably a good indication that it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Twilio can strengthen its balance sheet over time. 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, Twilio reported revenue of US$881m, which is a gain of 79%. With any luck the company will be able to grow its way to profitability.
So How Risky Is Twilio?
Statistically speaking companies that lose money are riskier than those that make money. And in the last year Twilio had negative earnings before interest and tax (EBIT), truth be told. Indeed, in that time it burnt through US$56m of cash and made a loss of US$203m. While this does make the company a bit risky, it's important to remember it has net cash of US$1.9b. That kitty means the company can keep spending for growth for at least five years, at current rates. With very solid revenue growth in the last year, Twilio may be on a path to profitability. Pre-profit companies are often risky, but they can also offer great rewards. When I consider a company to be a bit risky, I think it is responsible to check out whether insiders have been reporting any share sales. Luckily, you can click here ito see our graphic depicting Twilio insider transactions.
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.
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