Is Fortnox (STO:FNOX) A Risky Investment?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. We can see that Fortnox AB (publ) (STO:FNOX) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Fortnox

What Is Fortnox's Debt?

The image below, which you can click on for greater detail, shows that Fortnox had debt of kr100.0m at the end of June 2023, a reduction from kr200.0m over a year. But it also has kr502.0m in cash to offset that, meaning it has kr402.0m net cash.

How Healthy Is Fortnox's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Fortnox had liabilities of kr660.0m due within 12 months and liabilities of kr357.0m due beyond that. Offsetting this, it had kr502.0m in cash and kr573.0m in receivables that were due within 12 months. So it can boast kr58.0m more liquid assets than total liabilities.

This state of affairs indicates that Fortnox's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the kr33.2b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Fortnox boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Fortnox has boosted its EBIT by 50%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Fortnox 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Fortnox 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 most recent three years, Fortnox recorded free cash flow worth 70% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to investigate a company's debt, in this case Fortnox has kr402.0m in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 50% over the last year. So we don't think Fortnox's use of debt is risky. We'd be very excited to see if Fortnox insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.

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. 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.