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.' 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. Importantly, Next Fifteen Communications Group plc (LON:NFC) does carry debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. 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. 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.
What Is Next Fifteen Communications Group's Net Debt?
As you can see below, at the end of January 2022, Next Fifteen Communications Group had UK£22.5m of debt, up from UK£12.8m a year ago. Click the image for more detail. However, it does have UK£58.2m in cash offsetting this, leading to net cash of UK£35.7m.
A Look At Next Fifteen Communications Group's Liabilities
The latest balance sheet data shows that Next Fifteen Communications Group had liabilities of UK£180.3m due within a year, and liabilities of UK£203.0m falling due after that. Offsetting these obligations, it had cash of UK£58.2m as well as receivables valued at UK£115.0m due within 12 months. So its liabilities total UK£210.1m more than the combination of its cash and short-term receivables.
Given Next Fifteen Communications Group has a market capitalization of UK£1.24b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Next Fifteen Communications Group boasts net cash, so it's fair to say it does not have a heavy debt load!
Even more impressive was the fact that Next Fifteen Communications Group grew its EBIT by 177% over twelve months. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Next Fifteen Communications Group'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.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Next Fifteen Communications Group 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. Happily for any shareholders, Next Fifteen Communications Group actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.
Although Next Fifteen Communications Group's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of UK£35.7m. The cherry on top was that in converted 214% of that EBIT to free cash flow, bringing in UK£73m. So we don't think Next Fifteen Communications Group's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Next Fifteen Communications Group , and understanding them should be part of your investment process.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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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