Here's Why LS ELECTRIC (KRX:010120) Can Manage Its Debt Responsibly

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. As with many other companies LS ELECTRIC Co., Ltd. (KRX:010120) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for LS ELECTRIC

What Is LS ELECTRIC's Debt?

As you can see below, at the end of September 2020, LS ELECTRIC had ₩645.9b of debt, up from ₩548.0b a year ago. Click the image for more detail. But it also has ₩656.2b in cash to offset that, meaning it has ₩10.2b net cash.

How Healthy Is LS ELECTRIC's Balance Sheet?

According to the last reported balance sheet, LS ELECTRIC had liabilities of ₩616.6b due within 12 months, and liabilities of ₩536.7b due beyond 12 months. Offsetting this, it had ₩656.2b in cash and ₩450.5b in receivables that were due within 12 months. So it has liabilities totalling ₩46.6b more than its cash and near-term receivables, combined.

Of course, LS ELECTRIC has a market capitalization of ₩1.74t, 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. While it does have liabilities worth noting, LS ELECTRIC also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the bad news is that LS ELECTRIC has seen its EBIT plunge 13% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine LS ELECTRIC'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While LS ELECTRIC 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, LS ELECTRIC recorded free cash flow worth a fulsome 84% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that LS ELECTRIC has ₩10.2b in net cash. And it impressed us with free cash flow of ₩132b, being 84% of its EBIT. So we are not troubled with LS ELECTRIC'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. For example - LS ELECTRIC has 2 warning signs we think you should be aware of.

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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