These 4 Measures Indicate That Ocean Bio-Chem (NASDAQ:OBCI) Is Using Debt Safely

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Ocean Bio-Chem, Inc. (NASDAQ:OBCI) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Ocean Bio-Chem

How Much Debt Does Ocean Bio-Chem Carry?

As you can see below, Ocean Bio-Chem had US$3.86m of debt at June 2021, down from US$4.37m a year prior. However, its balance sheet shows it holds US$8.30m in cash, so it actually has US$4.44m net cash.

How Healthy Is Ocean Bio-Chem's Balance Sheet?

We can see from the most recent balance sheet that Ocean Bio-Chem had liabilities of US$6.44m falling due within a year, and liabilities of US$3.99m due beyond that. Offsetting these obligations, it had cash of US$8.30m as well as receivables valued at US$13.6m due within 12 months. So it can boast US$11.4m more liquid assets than total liabilities.

This surplus suggests that Ocean Bio-Chem has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Ocean Bio-Chem has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Ocean Bio-Chem has boosted its EBIT by 74%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Ocean Bio-Chem will need earnings to service that debt. 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, a company can only pay off debt with cold hard cash, not accounting profits. Ocean Bio-Chem 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. In the last three years, Ocean Bio-Chem's free cash flow amounted to 35% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Ocean Bio-Chem has US$4.44m in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 74% over the last year. So is Ocean Bio-Chem's debt a risk? It doesn't seem so to us. 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. For example - Ocean Bio-Chem has 2 warning signs we think you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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 (at) simplywallst.com.