Alarm.com Holdings (NASDAQ:ALRM) Seems To Use Debt Rather Sparingly

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.' 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 Alarm.com Holdings, Inc. (NASDAQ:ALRM) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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. 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 Alarm.com Holdings

What Is Alarm.com Holdings's Net Debt?

The chart below, which you can click on for greater detail, shows that Alarm.com Holdings had US$492.7m in debt in September 2023; about the same as the year before. However, its balance sheet shows it holds US$680.0m in cash, so it actually has US$187.2m net cash.

How Strong Is Alarm.com Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Alarm.com Holdings had liabilities of US$171.9m due within 12 months and liabilities of US$541.5m due beyond that. Offsetting this, it had US$680.0m in cash and US$110.3m in receivables that were due within 12 months. So it actually has US$76.8m more liquid assets than total liabilities.

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

Also good is that Alarm.com Holdings grew its EBIT at 12% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Alarm.com Holdings's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Alarm.com Holdings 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. Happily for any shareholders, Alarm.com Holdings actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While it is always sensible to investigate a company's debt, in this case Alarm.com Holdings has US$187.2m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of US$118m, being 113% of its EBIT. So is Alarm.com Holdings's debt a risk? It doesn't seem so to us. We'd be very excited to see if Alarm.com Holdings 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.

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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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.