These 4 Measures Indicate That Cadence Design Systems (NASDAQ:CDNS) Is Using Debt Safely

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Cadence Design Systems, Inc. (NASDAQ:CDNS) 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 and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Cadence Design Systems

What Is Cadence Design Systems's Net Debt?

As you can see below, at the end of March 2023, Cadence Design Systems had US$678.3m of debt, up from US$347.8m a year ago. Click the image for more detail. But it also has US$917.0m in cash to offset that, meaning it has US$238.7m net cash.

A Look At Cadence Design Systems' Liabilities

The latest balance sheet data shows that Cadence Design Systems had liabilities of US$1.18b due within a year, and liabilities of US$1.05b falling due after that. Offsetting these obligations, it had cash of US$917.0m as well as receivables valued at US$505.4m due within 12 months. So it has liabilities totalling US$808.4m more than its cash and near-term receivables, combined.

This state of affairs indicates that Cadence Design Systems' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the US$63.9b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Cadence Design Systems also has more cash than debt, so we're pretty confident it can manage its debt safely.

Another good sign is that Cadence Design Systems has been able to increase its EBIT by 22% in twelve months, making it easier to pay down debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Cadence Design Systems'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. While Cadence Design Systems 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, Cadence Design Systems actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

We could understand if investors are concerned about Cadence Design Systems's liabilities, but we can be reassured by the fact it has has net cash of US$238.7m. And it impressed us with free cash flow of US$1.0b, being 111% of its EBIT. So we don't think Cadence Design Systems's use of debt is risky. Another factor that would give us confidence in Cadence Design Systems would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.