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. 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 note that New Relic, Inc. (NYSE:NEWR) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
Why Does Debt Bring Risk?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does New Relic Carry?
The image below, which you can click on for greater detail, shows that at June 2019 New Relic had debt of US$411.1m, up from US$390.9m in one year. However, its balance sheet shows it holds US$768.9m in cash, so it actually has US$357.8m net cash.
A Look At New Relic’s Liabilities
We can see from the most recent balance sheet that New Relic had liabilities of US$312.6m falling due within a year, and liabilities of US$478.5m due beyond that. Offsetting these obligations, it had cash of US$768.9m as well as receivables valued at US$84.2m due within 12 months. So it actually has US$62.0m more liquid assets than total liabilities.
This state of affairs indicates that New Relic’s balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it’s very unlikely that the US$3.70b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, New Relic boasts net cash, so it’s fair to say it does not have a heavy debt load! There’s no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if New Relic 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, New Relic reported revenue of US$512m, which is a gain of 34%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.
So How Risky Is New Relic?
While New Relic lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow US$44m. 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. We think its revenue growth of 34% is a good sign. We’d see further strong growth as an optimistic indication. For riskier companies like New Relic I always like to keep an eye on whether insiders are buying or selling. So click here if you want to find out for yourself.
When all is said and done, sometimes its easier to focus on companies that don’t even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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