Atom Empreendimentos e Participações (BVMF:ATOM3) Seems To Use Debt Rather Sparingly

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.' 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 note that Atom Empreendimentos e Participações S.A. (BVMF:ATOM3) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

View our latest analysis for Atom Empreendimentos e Participações

How Much Debt Does Atom Empreendimentos e Participações Carry?

As you can see below, Atom Empreendimentos e Participações had R$8.08m of debt, at December 2020, which is about the same as the year before. You can click the chart for greater detail. However, its balance sheet shows it holds R$14.8m in cash, so it actually has R$6.72m net cash.

How Strong Is Atom Empreendimentos e Participações' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Atom Empreendimentos e Participações had liabilities of R$3.94m due within 12 months and liabilities of R$8.77m due beyond that. Offsetting these obligations, it had cash of R$14.8m as well as receivables valued at R$11.9m due within 12 months. So it actually has R$13.9m more liquid assets than total liabilities.

This short term liquidity is a sign that Atom Empreendimentos e Participações could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Atom Empreendimentos e Participações boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that Atom Empreendimentos e Participações grew its EBIT by 306% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is Atom Empreendimentos e Participações's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Atom Empreendimentos e Participações 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 most recent three years, Atom Empreendimentos e Participações recorded free cash flow worth 58% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to investigate a company's debt, in this case Atom Empreendimentos e Participações has R$6.72m in net cash and a decent-looking balance sheet. And we liked the look of last year's 306% year-on-year EBIT growth. So is Atom Empreendimentos e Participações's debt a risk? It doesn't seem so to us. 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Atom Empreendimentos e Participações (of which 1 shouldn't be ignored!) 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.

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