STMicroelectronics (EPA:STMPA) Has A Pretty Healthy Balance Sheet

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that STMicroelectronics N.V. (EPA:STMPA) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

See our latest analysis for STMicroelectronics

What Is STMicroelectronics's Debt?

The image below, which you can click on for greater detail, shows that at September 2024 STMicroelectronics had debt of US$3.04b, up from US$2.53b in one year. However, it does have US$6.30b in cash offsetting this, leading to net cash of US$3.25b.

How Strong Is STMicroelectronics' Balance Sheet?

We can see from the most recent balance sheet that STMicroelectronics had liabilities of US$4.21b falling due within a year, and liabilities of US$3.50b due beyond that. Offsetting these obligations, it had cash of US$6.30b as well as receivables valued at US$2.40b due within 12 months. So it can boast US$985.0m more liquid assets than total liabilities.

This surplus suggests that STMicroelectronics has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that STMicroelectronics has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that STMicroelectronics's load is not too heavy, because its EBIT was down 51% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine STMicroelectronics'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While STMicroelectronics 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, STMicroelectronics recorded free cash flow of 27% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case STMicroelectronics has US$3.25b in net cash and a decent-looking balance sheet. So we don't have any problem with STMicroelectronics's use of debt. 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. Case in point: We've spotted 1 warning sign for STMicroelectronics you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.