Is Redfin (NASDAQ:RDFN) Using Debt Sensibly?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Redfin Corporation (NASDAQ:RDFN) does carry debt. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Redfin

What Is Redfin's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2022 Redfin had US$1.70b of debt, an increase on US$1.48b, over one year. However, it does have US$475.8m in cash offsetting this, leading to net debt of about US$1.22b.

How Strong Is Redfin's Balance Sheet?

We can see from the most recent balance sheet that Redfin had liabilities of US$645.7m falling due within a year, and liabilities of US$1.26b due beyond that. On the other hand, it had cash of US$475.8m and US$96.7m worth of receivables due within a year. So its liabilities total US$1.33b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the US$791.7m 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. After all, Redfin would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Redfin 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.

In the last year Redfin wasn't profitable at an EBIT level, but managed to grow its revenue by 61%, to US$2.4b. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

While we can certainly appreciate Redfin's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Its EBIT loss was a whopping US$241m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it burned through US$60m in negative free cash flow over the last year. That means it's on the risky side of things. 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. Case in point: We've spotted 3 warning signs for Redfin you should be aware of, and 1 of them is a bit concerning.

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.