Atlas Engineered Products (CVE:AEP) Could Easily Take On More Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 can see that Atlas Engineered Products Ltd. (CVE:AEP) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Atlas Engineered Products

What Is Atlas Engineered Products's Net Debt?

As you can see below, Atlas Engineered Products had CA$6.97m of debt, at December 2021, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has CA$8.96m in cash, leading to a CA$1.99m net cash position.

How Healthy Is Atlas Engineered Products' Balance Sheet?

The latest balance sheet data shows that Atlas Engineered Products had liabilities of CA$6.78m due within a year, and liabilities of CA$9.19m falling due after that. Offsetting this, it had CA$8.96m in cash and CA$6.73m in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

This state of affairs indicates that Atlas Engineered Products' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CA$37.9m company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, Atlas Engineered Products boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that Atlas Engineered Products grew its EBIT by 1,953% 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 Atlas Engineered Products'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Atlas Engineered Products 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. Over the last three years, Atlas Engineered Products recorded free cash flow worth a fulsome 91% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Atlas Engineered Products has CA$1.99m in net cash. And it impressed us with free cash flow of CA$8.3m, being 91% of its EBIT. So is Atlas Engineered Products's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with Atlas Engineered Products .

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.