Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Compass, Inc. (NYSE:COMP) 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Compass Carry?
You can click the graphic below for the historical numbers, but it shows that Compass had US$27.9m of debt in September 2023, down from US$36.5m, one year before. However, its balance sheet shows it holds US$220.0m in cash, so it actually has US$192.1m net cash.
A Look At Compass' Liabilities
We can see from the most recent balance sheet that Compass had liabilities of US$337.6m falling due within a year, and liabilities of US$448.6m due beyond that. On the other hand, it had cash of US$220.0m and US$75.3m worth of receivables due within a year. So its liabilities total US$490.9m more than the combination of its cash and short-term receivables.
This deficit isn't so bad because Compass is worth US$1.84b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Compass boasts net cash, so it's fair to say it does not have a heavy debt load! 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 Compass 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 Compass had a loss before interest and tax, and actually shrunk its revenue by 25%, to US$4.9b. To be frank that doesn't bode well.
So How Risky Is Compass?
Statistically speaking companies that lose money are riskier than those that make money. And in the last year Compass had an earnings before interest and tax (EBIT) loss, truth be told. Indeed, in that time it burnt through US$127m of cash and made a loss of US$396m. However, it has net cash of US$192.1m, so it has a bit of time before it will need more capital. Summing up, we're a little skeptical of this one, as it seems fairly risky in the absence of free cashflow. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Compass you should know about.
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.