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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Clearfield, Inc. (NASDAQ:CLFD) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

What Is Clearfield's Net Debt?

The image below, which you can click on for greater detail, shows that Clearfield had debt of US$5.15m at the end of September 2024, a reduction from US$8.40m over a year. However, it does have US$131.0m in cash offsetting this, leading to net cash of US$125.8m.

How Strong Is Clearfield's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Clearfield had liabilities of US$24.4m due within 12 months and liabilities of US$15.2m due beyond that. On the other hand, it had cash of US$131.0m and US$21.3m worth of receivables due within a year. So it actually has US$112.8m more liquid assets than total liabilities.

This surplus suggests that Clearfield is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Clearfield boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Clearfield can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, Clearfield made a loss at the EBIT level, and saw its revenue drop to US$167m, which is a fall of 38%. To be frank that doesn't bode well.

So How Risky Is Clearfield?

Although Clearfield had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of US$13m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. We'll feel more comfortable with the stock once EBIT is positive, given the lacklustre revenue growth. For riskier companies like Clearfield I always like to keep an eye on whether insiders are buying or selling. So click here if you want to find out for yourself.

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.