Here's Why CoStar Group (NASDAQ:CSGP) Can Manage Its Debt Responsibly

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 CoStar Group, Inc. (NASDAQ:CSGP) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for CoStar Group

What Is CoStar Group's Debt?

The chart below, which you can click on for greater detail, shows that CoStar Group had US$990.8m in debt in March 2024; about the same as the year before. However, its balance sheet shows it holds US$4.95b in cash, so it actually has US$3.96b net cash.

How Strong Is CoStar Group's Balance Sheet?

According to the last reported balance sheet, CoStar Group had liabilities of US$573.8m due within 12 months, and liabilities of US$1.12b due beyond 12 months. Offsetting this, it had US$4.95b in cash and US$203.2m in receivables that were due within 12 months. So it can boast US$3.46b more liquid assets than total liabilities.

This short term liquidity is a sign that CoStar Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that CoStar Group has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact CoStar Group's saving grace is its low debt levels, because its EBIT has tanked 58% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine CoStar 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. CoStar 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. During the last three years, CoStar Group generated free cash flow amounting to a very robust 80% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case CoStar Group has US$3.96b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 80% of that EBIT to free cash flow, bringing in US$2.4m. So we don't have any problem with CoStar Group's use of debt. 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. To that end, you should be aware of the 1 warning sign we've spotted with CoStar Group .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.