Lectra (EPA:LSS) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Lectra SA (EPA:LSS) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 examine debt levels, we first consider both cash and debt levels, 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 €98.0m at the end of September 2023, a reduction from €118.6m over a year. But on the other hand it also has €110.6m in cash, leading to a €12.5m net cash position.

How Strong Is Lectra's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Lectra had liabilities of €218.8m due within 12 months and liabilities of €162.5m due beyond that. Offsetting these obligations, it had cash of €110.6m as well as receivables valued at €85.4m due within 12 months. So it has liabilities totalling €185.3m more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Lectra has a market capitalization of €897.6m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Lectra boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Lectra if management cannot prevent a repeat of the 23% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. 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. During the last three years, Lectra generated free cash flow amounting to a very robust 96% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

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 €12.5m. The cherry on top was that in converted 96% of that EBIT to free cash flow, bringing in €53m. So we don't have any problem with Lectra's use of debt. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Lectra's earnings per share history for free.

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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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.