Does Alarm.com Holdings (NASDAQ:ALRM) Have A Healthy Balance Sheet?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Alarm.com Holdings, Inc. (NASDAQ:ALRM) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Alarm.com Holdings

What Is Alarm.com Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2022 Alarm.com Holdings had US$490.4m of debt, an increase on US$425.3m, over one year. But it also has US$622.2m in cash to offset that, meaning it has US$131.8m net cash.

How Strong Is Alarm.com Holdings' Balance Sheet?

We can see from the most recent balance sheet that Alarm.com Holdings had liabilities of US$164.9m falling due within a year, and liabilities of US$541.6m due beyond that. Offsetting these obligations, it had cash of US$622.2m as well as receivables valued at US$124.3m due within 12 months. So it actually has US$39.9m more liquid assets than total liabilities.

Having regard to Alarm.com Holdings' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the US$2.49b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Alarm.com Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

But the bad news is that Alarm.com Holdings has seen its EBIT plunge 14% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. The balance sheet is clearly the area to focus on when you are analysing debt. 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, a company can only pay off debt with cold hard cash, not accounting profits. 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. During the last three years, Alarm.com Holdings generated free cash flow amounting to a very robust 96% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Alarm.com Holdings has net cash of US$131.8m, as well as more liquid assets than liabilities. The cherry on top was that in converted 96% of that EBIT to free cash flow, bringing in US$28m. So we don't have any problem with Alarm.com Holdings's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Alarm.com Holdings that you should be aware of.

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.