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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. Importantly, Independence Group NL (ASX:IGO) does carry debt. But should shareholders be worried about its use of debt?
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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
Check out our latest analysis for Independence Group
What Is Independence Group's Debt?
The image below, which you can click on for greater detail, shows that Independence Group had debt of AU$112.7m at the end of December 2018, a reduction from AU$168.9m over a year. But on the other hand it also has AU$230.3m in cash, leading to a AU$117.6m net cash position.
How Strong Is Independence Group's Balance Sheet?
According to the last reported balance sheet, Independence Group had liabilities of AU$111.2m due within 12 months, and liabilities of AU$253.5m due beyond 12 months. On the other hand, it had cash of AU$230.3m and AU$48.3m worth of receivables due within a year. So its liabilities total AU$86.1m more than the combination of its cash and short-term receivables.
Given Independence Group has a market capitalization of AU$3.16b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Independence Group also has more cash than debt, so we're pretty confident it can manage its debt safely.
Even more impressive was the fact that Independence Group grew its EBIT by 1466% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. 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 Independence Group 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.