Is Advanced Energy Industries (NASDAQ:AEIS) Using Too Much Debt?

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 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. Importantly, Advanced Energy Industries, Inc. (NASDAQ:AEIS) does carry debt. But is this debt a concern to shareholders?

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. 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, 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 Advanced Energy Industries

How Much Debt Does Advanced Energy Industries Carry?

You can click the graphic below for the historical numbers, but it shows that Advanced Energy Industries had US$378.1m of debt in September 2022, down from US$397.6m, one year before. However, it does have US$411.2m in cash offsetting this, leading to net cash of US$33.0m.

A Look At Advanced Energy Industries' Liabilities

According to the last reported balance sheet, Advanced Energy Industries had liabilities of US$433.0m due within 12 months, and liabilities of US$551.2m due beyond 12 months. Offsetting this, it had US$411.2m in cash and US$307.0m in receivables that were due within 12 months. So it has liabilities totalling US$265.9m more than its cash and near-term receivables, combined.

Since publicly traded Advanced Energy Industries shares are worth a total of US$3.21b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Advanced Energy Industries also has more cash than debt, so we're pretty confident it can manage its debt safely.

Another good sign is that Advanced Energy Industries has been able to increase its EBIT by 24% in twelve months, making it easier to pay down debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Advanced Energy Industries's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Advanced Energy Industries 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. During the last three years, Advanced Energy Industries produced sturdy free cash flow equating to 62% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

We could understand if investors are concerned about Advanced Energy Industries's liabilities, but we can be reassured by the fact it has has net cash of US$33.0m. And it impressed us with its EBIT growth of 24% over the last year. So we don't think Advanced Energy Industries's use of debt is risky. 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. We've identified 1 warning sign with Advanced Energy Industries , and understanding them should be part of your investment process.

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.

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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.