Is NextgenInc (TYO:3842) A Risky Investment?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Nextgen,Inc. (TYO:3842) does use debt in its business. But the more important question is: how much risk is that debt creating?

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 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for NextgenInc

How Much Debt Does NextgenInc Carry?

The image below, which you can click on for greater detail, shows that NextgenInc had debt of JP¥1.21b at the end of December 2020, a reduction from JP¥1.26b over a year. However, it does have JP¥1.57b in cash offsetting this, leading to net cash of JP¥363.0m.

How Strong Is NextgenInc's Balance Sheet?

According to the last reported balance sheet, NextgenInc had liabilities of JP¥1.75b due within 12 months, and liabilities of JP¥390.0m due beyond 12 months. Offsetting these obligations, it had cash of JP¥1.57b as well as receivables valued at JP¥881.0m due within 12 months. So it actually has JP¥315.0m more liquid assets than total liabilities.

This short term liquidity is a sign that NextgenInc could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that NextgenInc has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since NextgenInc will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, NextgenInc reported revenue of JP¥4.4b, which is a gain of 25%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

So How Risky Is NextgenInc?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that NextgenInc had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of JP¥799m and booked a JP¥218m accounting loss. But the saving grace is the JP¥363.0m on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. NextgenInc's revenue growth shone bright over the last year, so it may well be in a position to turn a profit in due course. By investing before those profits, shareholders take on more risk in the hope of bigger rewards. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for NextgenInc you should know about.

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.

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This article by Simply Wall St is general in nature. 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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