Is Lectra (EPA:LSS) A Risky Investment?

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. As with many other companies Lectra SA (EPA:LSS) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

View our latest analysis for Lectra

What Is Lectra's Net Debt?

The image below, which you can click on for greater detail, shows that Lectra had debt of €118.6m at the end of September 2022, a reduction from €139.4m over a year. However, it does have €122.4m in cash offsetting this, leading to net cash of €3.82m.

How Strong Is Lectra's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Lectra had liabilities of €239.3m due within 12 months and liabilities of €147.8m due beyond that. On the other hand, it had cash of €122.4m and €90.0m worth of receivables due within a year. So it has liabilities totalling €174.6m more than its cash and near-term receivables, combined.

Of course, Lectra has a market capitalization of €1.53b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Lectra boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, Lectra grew its EBIT by 73% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Lectra 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. While Lectra 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 last three years, Lectra actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

Although Lectra's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of €3.82m. The cherry on top was that in converted 100% of that EBIT to free cash flow, bringing in €51m. So is Lectra's debt a risk? It doesn't seem so to us. Over time, share prices tend to follow earnings per share, so if you're interested in Lectra, you may well want to click here to check an interactive graph of its earnings per share history.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.