GMO internet group (TSE:9449) Takes On Some Risk With Its Use Of Debt

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 GMO internet group, Inc. (TSE:9449) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for GMO internet group

What Is GMO internet group's Net Debt?

As you can see below, at the end of December 2023, GMO internet group had JP¥473.6b of debt, up from JP¥391.2b a year ago. Click the image for more detail. But on the other hand it also has JP¥905.4b in cash, leading to a JP¥431.9b net cash position.

A Look At GMO internet group's Liabilities

We can see from the most recent balance sheet that GMO internet group had liabilities of JP¥1.31t falling due within a year, and liabilities of JP¥277.8b due beyond that. Offsetting these obligations, it had cash of JP¥905.4b as well as receivables valued at JP¥56.3b due within 12 months. So it has liabilities totalling JP¥623.1b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the JP¥285.0b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. At the end of the day, GMO internet group would probably need a major re-capitalization if its creditors were to demand repayment. Given that GMO internet group has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total.

On the other hand, GMO internet group saw its EBIT drop by 3.6% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. 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 GMO internet 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. GMO internet 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. Over the last three years, GMO internet group recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing Up

While GMO internet group does have more liabilities than liquid assets, it also has net cash of JP¥431.9b. Despite the cash, we do find GMO internet group's level of total liabilities concerning, so we're not particularly comfortable with the stock. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of GMO internet group's earnings per share history for free.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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.