Is One Stop Systems (NASDAQ:OSS) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. As with many other companies One Stop Systems, Inc. (NASDAQ:OSS) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for One Stop Systems

How Much Debt Does One Stop Systems Carry?

You can click the graphic below for the historical numbers, but it shows that One Stop Systems had US$4.29m of debt in June 2021, down from US$5.83m, one year before. But on the other hand it also has US$18.5m in cash, leading to a US$14.2m net cash position.

How Healthy Is One Stop Systems' Balance Sheet?

According to the balance sheet data, One Stop Systems had liabilities of US$11.5m due within 12 months, but no longer term liabilities. On the other hand, it had cash of US$18.5m and US$6.53m worth of receivables due within a year. So it can boast US$13.5m more liquid assets than total liabilities.

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

Even more impressive was the fact that One Stop Systems grew its EBIT by 621% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine One Stop 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. One Stop Systems 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 two years, One Stop Systems's free cash flow amounted to 44% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that One Stop Systems has net cash of US$14.2m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 621% over the last year. So is One Stop Systems's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 3 warning signs we've spotted with One Stop Systems .

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.
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