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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Alarm.com Holdings, Inc. (NASDAQ:ALRM) does have debt on its balance sheet. 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. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

What Is Alarm.com Holdings's Net Debt?

The chart below, which you can click on for greater detail, shows that Alarm.com Holdings had US$494.3m in debt in March 2024; about the same as the year before. However, its balance sheet shows it holds US$747.9m in cash, so it actually has US$253.6m net cash.

A Look At Alarm.com Holdings' Liabilities

The latest balance sheet data shows that Alarm.com Holdings had liabilities of US$181.2m due within a year, and liabilities of US$540.0m falling due after that. Offsetting this, it had US$747.9m in cash and US$128.5m in receivables that were due within 12 months. So it can boast US$155.2m more liquid assets than total liabilities.

This short term liquidity is a sign that Alarm.com Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Alarm.com Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, Alarm.com Holdings grew its EBIT by 33% over the last twelve months, and that growth will make it easier to handle its debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Alarm.com Holdings's ability to maintain a healthy balance sheet going forward. 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. While Alarm.com Holdings has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Alarm.com Holdings actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Alarm.com Holdings has net cash of US$253.6m, as well as more liquid assets than liabilities. The cherry on top was that in converted 123% of that EBIT to free cash flow, bringing in US$174m. So we don't think Alarm.com Holdings's use of debt is risky. Another factor that would give us confidence in Alarm.com Holdings would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com