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.' 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, Helloworld Travel Limited (ASX:HLO) does carry debt. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Helloworld Travel's Net Debt?
The image below, which you can click on for greater detail, shows that Helloworld Travel had debt of AU$80.7m at the end of December 2020, a reduction from AU$90.4m over a year. However, it does have AU$142.7m in cash offsetting this, leading to net cash of AU$62.0m.
How Strong Is Helloworld Travel's Balance Sheet?
We can see from the most recent balance sheet that Helloworld Travel had liabilities of AU$152.4m falling due within a year, and liabilities of AU$150.8m due beyond that. On the other hand, it had cash of AU$142.7m and AU$49.0m worth of receivables due within a year. So its liabilities total AU$111.6m more than the combination of its cash and short-term receivables.
While this might seem like a lot, it is not so bad since Helloworld Travel has a market capitalization of AU$358.1m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Helloworld Travel 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 Helloworld Travel can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Over 12 months, Helloworld Travel made a loss at the EBIT level, and saw its revenue drop to AU$112m, which is a fall of 70%. That makes us nervous, to say the least.
So How Risky Is Helloworld Travel?
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 Helloworld Travel lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through AU$14m of cash and made a loss of AU$107m. Given it only has net cash of AU$62.0m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Helloworld Travel you should know about.
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.
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