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. 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. We can see that OC Oerlikon Corporation AG (VTX:OERL) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for OC Oerlikon

What Is OC Oerlikon's Net Debt?

You can click the graphic below for the historical numbers, but it shows that OC Oerlikon had CHF155.0m of debt in June 2019, down from CHF478.0m, one year before. However, it does have CHF756.0m in cash offsetting this, leading to net cash of CHF601.0m.

A Look At OC Oerlikon's Liabilities

The latest balance sheet data shows that OC Oerlikon had liabilities of CHF1.04b due within a year, and liabilities of CHF932.0m falling due after that. Offsetting this, it had CHF756.0m in cash and CHF490.0m in receivables that were due within 12 months. So it has liabilities totalling CHF721.0m more than its cash and near-term receivables, combined.

OC Oerlikon has a market capitalization of CHF3.18b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, OC Oerlikon boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, OC Oerlikon's EBIT dived 13%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine OC Oerlikon'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 OC Oerlikon 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, OC Oerlikon recorded free cash flow worth a fulsome 96% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing up

Although OC Oerlikon's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CHF601.0m. The cherry on top was that in converted 96% of that EBIT to free cash flow, bringing in CHF52m. So we are not troubled with OC Oerlikon's debt use. Given OC Oerlikon has a strong balance sheet is profitable and pays a dividend, it would be good to know how fast its dividends are growing, if at all. 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.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.