We Think PagSeguro Digital (NYSE:PAGS) Can Stay On Top Of Its Debt

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. We note that PagSeguro Digital Ltd. (NYSE:PAGS) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for PagSeguro Digital

What Is PagSeguro Digital's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2022 PagSeguro Digital had R$1.30b of debt, an increase on none, over one year. But it also has R$1.48b in cash to offset that, meaning it has R$180.0m net cash.

A Look At PagSeguro Digital's Liabilities

We can see from the most recent balance sheet that PagSeguro Digital had liabilities of R$20.9b falling due within a year, and liabilities of R$2.09b due beyond that. On the other hand, it had cash of R$1.48b and R$26.2b worth of receivables due within a year. So it actually has R$4.67b more liquid assets than total liabilities.

It's good to see that PagSeguro Digital has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, PagSeguro Digital boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that PagSeguro Digital has boosted its EBIT by 75%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if PagSeguro Digital can strengthen its balance sheet over time. 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. PagSeguro Digital 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. Over the last three years, PagSeguro Digital recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that PagSeguro Digital has net cash of R$180.0m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 75% over the last year. So we are not troubled with PagSeguro Digital's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with PagSeguro Digital (including 1 which is a bit concerning) .

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.