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 Medallia, Inc. (NYSE:MDLA) makes use of debt. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.
Check out our latest analysis for Medallia
What Is Medallia's Debt?
As you can see below, at the end of April 2020, Medallia had US$43.0m of debt, up from none a year ago. Click the image for more detail. But it also has US$407.5m in cash to offset that, meaning it has US$364.5m net cash.
How Strong Is Medallia's Balance Sheet?
The latest balance sheet data shows that Medallia had liabilities of US$304.2m due within a year, and liabilities of US$14.2m falling due after that. Offsetting this, it had US$407.5m in cash and US$67.6m in receivables that were due within 12 months. So it actually has US$156.8m more liquid assets than total liabilities.
This surplus suggests that Medallia has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Medallia has more cash than debt is arguably a good indication that it can manage its debt safely. 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 Medallia 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.
Over 12 months, Medallia reported revenue of US$422m, which is a gain of 25%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.
So How Risky Is Medallia?
By their very nature companies that are losing money are more risky than those with a long history of profitability. And in the last year Medallia had negative earnings before interest and tax (EBIT), truth be told. Indeed, in that time it burnt through US$22.3m of cash and made a loss of US$142.3m. While this does make the company a bit risky, it's important to remember it has net cash of US$364.5m. That means it could keep spending at its current rate for more than two years. With very solid revenue growth in the last year, Medallia may be on a path to profitability. By investing before those profits, shareholders take on more risk in the hope of bigger rewards. 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. To that end, you should be aware of the 4 warning signs we've spotted with Medallia .
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
This article by Simply Wall St is general in nature. 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.
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