Here's Why Outokumpu Oyj (HEL:OUT1V) Has A Meaningful Debt Burden

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Outokumpu Oyj (HEL:OUT1V) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. 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.

See our latest analysis for Outokumpu Oyj

What Is Outokumpu Oyj's Net Debt?

The image below, which you can click on for greater detail, shows that Outokumpu Oyj had debt of €274.0m at the end of December 2023, a reduction from €463.0m over a year. But on the other hand it also has €529.0m in cash, leading to a €255.0m net cash position.

How Healthy Is Outokumpu Oyj's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Outokumpu Oyj had liabilities of €1.47b due within 12 months and liabilities of €699.0m due beyond that. On the other hand, it had cash of €529.0m and €611.0m worth of receivables due within a year. So it has liabilities totalling €1.03b more than its cash and near-term receivables, combined.

Outokumpu Oyj has a market capitalization of €1.71b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, Outokumpu Oyj boasts net cash, so it's fair to say it does not have a heavy debt load!

Shareholders should be aware that Outokumpu Oyj's EBIT was down 84% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Outokumpu Oyj's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Outokumpu Oyj 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. Over the most recent three years, Outokumpu Oyj recorded free cash flow worth 67% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

Although Outokumpu Oyj's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of €255.0m. And it impressed us with free cash flow of €179m, being 67% of its EBIT. So although we see some areas for improvement, we're not too worried about Outokumpu Oyj's balance sheet. 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. We've identified 1 warning sign with Outokumpu Oyj , and understanding them should be part of your investment process.

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.