Is Locality Planning Energy Holdings (ASX:LPE) Using Debt Sensibly?

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.' 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, Locality Planning Energy Holdings Limited (ASX:LPE) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

Check out our latest analysis for Locality Planning Energy Holdings

What Is Locality Planning Energy Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Locality Planning Energy Holdings had AU$5.74m of debt in December 2023, down from AU$10.5m, one year before. However, its balance sheet shows it holds AU$11.3m in cash, so it actually has AU$5.52m net cash.

A Look At Locality Planning Energy Holdings' Liabilities

The latest balance sheet data shows that Locality Planning Energy Holdings had liabilities of AU$13.0m due within a year, and liabilities of AU$3.80m falling due after that. Offsetting this, it had AU$11.3m in cash and AU$8.99m in receivables that were due within 12 months. So it can boast AU$3.47m more liquid assets than total liabilities.

This excess liquidity is a great indication that Locality Planning Energy Holdings' balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Simply put, the fact that Locality Planning Energy Holdings has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Locality Planning Energy Holdings will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

In the last year Locality Planning Energy Holdings had a loss before interest and tax, and actually shrunk its revenue by 34%, to AU$37m. That makes us nervous, to say the least.

So How Risky Is Locality Planning Energy Holdings?

While Locality Planning Energy Holdings lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow AU$11m. 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. The next few years will be important as the business matures. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Locality Planning Energy Holdings that you should be aware of.

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.