STMicroelectronics (EPA:STM) Seems To Use Debt Rather Sparingly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, STMicroelectronics N.V. (EPA:STM) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for STMicroelectronics

How Much Debt Does STMicroelectronics Carry?

The image below, which you can click on for greater detail, shows that at July 2021 STMicroelectronics had debt of US$3.17b, up from US$2.05b in one year. But it also has US$4.25b in cash to offset that, meaning it has US$1.08b net cash.

How Strong Is STMicroelectronics' Balance Sheet?

According to the last reported balance sheet, STMicroelectronics had liabilities of US$3.48b due within 12 months, and liabilities of US$3.32b due beyond 12 months. On the other hand, it had cash of US$4.25b and US$1.57b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$979.0m.

Given STMicroelectronics has a humongous market capitalization of US$41.4b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, STMicroelectronics also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that STMicroelectronics has boosted its EBIT by 70%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if STMicroelectronics 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. STMicroelectronics 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. During the last three years, STMicroelectronics produced sturdy free cash flow equating to 51% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

We could understand if investors are concerned about STMicroelectronics's liabilities, but we can be reassured by the fact it has has net cash of US$1.08b. And it impressed us with its EBIT growth of 70% over the last year. So is STMicroelectronics's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for STMicroelectronics you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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.

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