The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We note that MACOM Technology Solutions Holdings, Inc. (NASDAQ:MTSI) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is MACOM Technology Solutions Holdings's Net Debt?

As you can see below, MACOM Technology Solutions Holdings had US$457.1m of debt at June 2024, down from US$576.5m a year prior. But it also has US$521.5m in cash to offset that, meaning it has US$64.4m net cash.

A Look At MACOM Technology Solutions Holdings' Liabilities

According to the last reported balance sheet, MACOM Technology Solutions Holdings had liabilities of US$103.1m due within 12 months, and liabilities of US$521.1m due beyond 12 months. Offsetting this, it had US$521.5m in cash and US$106.8m in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

Having regard to MACOM Technology Solutions Holdings' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the US$7.49b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that MACOM Technology Solutions Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact MACOM Technology Solutions Holdings's saving grace is its low debt levels, because its EBIT has tanked 45% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if MACOM Technology Solutions Holdings can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. MACOM Technology Solutions Holdings 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. Happily for any shareholders, MACOM Technology Solutions Holdings actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While it is always sensible to investigate a company's debt, in this case MACOM Technology Solutions Holdings has US$64.4m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 125% of that EBIT to free cash flow, bringing in US$128m. So we don't have any problem with MACOM Technology Solutions Holdings's use of debt. 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 1 warning sign we've spotted with MACOM Technology Solutions Holdings .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.