These 4 Measures Indicate That Lundin Mining (TSE:LUN) Is Using Debt Reasonably Well

By
Simply Wall St
Published
January 09, 2022
TSX:LUN
Source: Shutterstock

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. Importantly, Lundin Mining Corporation (TSE:LUN) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Lundin Mining

What Is Lundin Mining's Debt?

You can click the graphic below for the historical numbers, but it shows that Lundin Mining had US$5.90m of debt in September 2021, down from US$306.9m, one year before. However, its balance sheet shows it holds US$428.3m in cash, so it actually has US$422.4m net cash.

debt-equity-history-analysis
TSX:LUN Debt to Equity History January 9th 2022

A Look At Lundin Mining's Liabilities

We can see from the most recent balance sheet that Lundin Mining had liabilities of US$598.8m falling due within a year, and liabilities of US$1.83b due beyond that. On the other hand, it had cash of US$428.3m and US$426.7m worth of receivables due within a year. So it has liabilities totalling US$1.58b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Lundin Mining has a market capitalization of US$5.91b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Lundin Mining also has more cash than debt, so we're pretty confident it can manage its debt safely.

Better yet, Lundin Mining grew its EBIT by 183% last year, which is an impressive improvement. 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 ultimately the future profitability of the business will decide if Lundin Mining 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Lundin Mining has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Looking at the most recent three years, Lundin Mining recorded free cash flow of 35% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

Although Lundin Mining's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$422.4m. And we liked the look of last year's 183% year-on-year EBIT growth. So we don't have any problem with Lundin Mining's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with Lundin Mining (including 1 which is concerning) .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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