Warren Buffett famously said, ‘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. We note that Polar Power, Inc. (NASDAQ:POLA) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Polar Power’s Debt?

As you can see below, Polar Power had US$2.34m of debt at June 2021, down from US$2.66m a year prior. However, its balance sheet shows it holds US$8.54m in cash, so it actually has US$6.20m net cash.

How Healthy Is Polar Power’s Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Polar Power had liabilities of US$5.29m due within 12 months and liabilities of US$1.03m due beyond that. Offsetting these obligations, it had cash of US$8.54m as well as receivables valued at US$5.67m due within 12 months. So it actually has US$7.89m more liquid assets than total liabilities.

This surplus suggests that Polar Power has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Polar Power 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 Polar Power can strengthen its balance sheet over time.

Over 12 months, Polar Power reported revenue of US$13m, which is a gain of 12%, although it did not report any earnings before interest and tax. We usually like to see faster growth from unprofitable companies, but each to their own.

So How Risky Is Polar Power?

Statistically speaking companies that lose money are riskier than those that make money. And in the last year Polar Power had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of US$9.0m and booked a US$11m accounting loss. However, it has net cash of US$6.20m, so it has a bit of time before it will need more capital. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn’t produce free cash flow regularly. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet – far from it.