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 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. Importantly, Cardlytics, Inc. (NASDAQ:CDLX) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Generally speaking, debt only becomes a real problem when a company can’t easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
What Is Cardlytics’s Debt?
You can click the graphic below for the historical numbers, but it shows that as of March 2021 Cardlytics had US$176.5m of debt, an increase on none, over one year. But it also has US$613.5m in cash to offset that, meaning it has US$437.0m net cash.
A Look At Cardlytics’ Liabilities
We can see from the most recent balance sheet that Cardlytics had liabilities of US$92.0m falling due within a year, and liabilities of US$186.1m due beyond that. Offsetting this, it had US$613.5m in cash and US$81.2m in receivables that were due within 12 months. So it can boast US$416.7m more liquid assets than total liabilities.
This surplus suggests that Cardlytics has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Cardlytics has more cash than debt is arguably a good indication that it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Cardlytics’s ability to maintain a healthy balance sheet going forward.
Over 12 months, Cardlytics made a loss at the EBIT level, and saw its revenue drop to US$195m, which is a fall of 12%. That’s not what we would hope to see.
So How Risky Is Cardlytics?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year Cardlytics had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of US$29m and booked a US$67m accounting loss. While this does make the company a bit risky, it’s important to remember it has net cash of US$437.0m. That kitty means the company can keep spending for growth for at least two years, at current rates. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn’t produce free cash flow regularly. There’s no doubt that we learn most about debt from the balance sheet.