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. We can see that Aegean Airlines S.A. (ATH:AEGN) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Aegean Airlines

How Much Debt Does Aegean Airlines Carry?

As you can see below, at the end of September 2019, Aegean Airlines had €56.6m of debt, up from €27.6m a year ago. Click the image for more detail. However, it does have €617.7m in cash offsetting this, leading to net cash of €561.1m.

A Look At Aegean Airlines's Liabilities

Zooming in on the latest balance sheet data, we can see that Aegean Airlines had liabilities of €724.0m due within 12 months and liabilities of €404.5m due beyond that. Offsetting this, it had €617.7m in cash and €170.9m in receivables that were due within 12 months. So its liabilities total €339.9m more than the combination of its cash and short-term receivables.

Aegean Airlines has a market capitalization of €608.5m, so it could very likely raise cash to ameliorate 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, Aegean Airlines boasts net cash, so it's fair to say it does not have a heavy debt load!

Sadly, Aegean Airlines's EBIT actually dropped 9.8% in the last year. If that earnings trend continues then its debt load will grow heavy like the heart of a polar bear watching its sole cub. 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 Aegean Airlines's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Aegean Airlines may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Happily for any shareholders, Aegean Airlines actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

Although Aegean Airlines's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of €561.1m. The cherry on top was that in converted 114% of that EBIT to free cash flow, bringing in €172m. So we don't have any problem with Aegean Airlines's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider risks, for instance. Every company has them, and we've spotted 1 warning sign for Aegean Airlines 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.

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.

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