We Think Ludan Engineering (TLV:LUDN) Can Stay On Top Of Its Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that Ludan Engineering Co. Ltd (TLV:LUDN) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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 examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Ludan Engineering

How Much Debt Does Ludan Engineering Carry?

The image below, which you can click on for greater detail, shows that at December 2023 Ludan Engineering had debt of ₪31.7m, up from ₪22.3m in one year. But on the other hand it also has ₪36.5m in cash, leading to a ₪4.76m net cash position.

How Healthy Is Ludan Engineering's Balance Sheet?

According to the last reported balance sheet, Ludan Engineering had liabilities of ₪211.8m due within 12 months, and liabilities of ₪79.6m due beyond 12 months. Offsetting these obligations, it had cash of ₪36.5m as well as receivables valued at ₪209.0m due within 12 months. So its liabilities total ₪45.8m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Ludan Engineering has a market capitalization of ₪214.1m, 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, Ludan Engineering boasts net cash, so it's fair to say it does not have a heavy debt load!

But the other side of the story is that Ludan Engineering saw its EBIT decline by 4.7% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Ludan Engineering will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Ludan Engineering 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, Ludan Engineering generated free cash flow amounting to a very robust 84% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While Ludan Engineering does have more liabilities than liquid assets, it also has net cash of ₪4.76m. And it impressed us with free cash flow of ₪21m, being 84% of its EBIT. So we are not troubled with Ludan Engineering's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with Ludan Engineering .

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.