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. As with many other companies Alphabet Inc. (NASDAQ:GOOGL) makes use of debt. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
What Is Alphabet's Net Debt?
As you can see below, Alphabet had US$12.9b of debt, at September 2022, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has US$116.3b in cash, leading to a US$103.4b net cash position.
How Healthy Is Alphabet's Balance Sheet?
According to the last reported balance sheet, Alphabet had liabilities of US$66.0b due within 12 months, and liabilities of US$38.7b due beyond 12 months. Offsetting this, it had US$116.3b in cash and US$36.2b in receivables that were due within 12 months. So it can boast US$47.8b more liquid assets than total liabilities.
This short term liquidity is a sign that Alphabet could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Alphabet boasts net cash, so it's fair to say it does not have a heavy debt load!
The good news is that Alphabet has increased its EBIT by 8.4% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Alphabet 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 company can only pay off debt with cold hard cash, not accounting profits. Alphabet 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. During the last three years, Alphabet generated free cash flow amounting to a very robust 87% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
While we empathize with investors who find debt concerning, you should keep in mind that Alphabet has net cash of US$103.4b, as well as more liquid assets than liabilities. The cherry on top was that in converted 87% of that EBIT to free cash flow, bringing in US$63b. So we don't think Alphabet's use of debt is risky. 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 Alphabet's earnings per share history for free.
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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