Here's Why Lubawa (WSE:LBW) Can Manage Its Debt Responsibly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Lubawa S.A. (WSE:LBW) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Lubawa

How Much Debt Does Lubawa Carry?

The image below, which you can click on for greater detail, shows that Lubawa had debt of zł14.3m at the end of September 2023, a reduction from zł41.9m over a year. However, its balance sheet shows it holds zł24.9m in cash, so it actually has zł10.6m net cash.

How Healthy Is Lubawa's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Lubawa had liabilities of zł106.6m due within 12 months and liabilities of zł37.4m due beyond that. Offsetting this, it had zł24.9m in cash and zł88.5m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by zł30.5m.

Since publicly traded Lubawa shares are worth a total of zł465.8m, it seems unlikely that this level of liabilities would be a major threat. 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, Lubawa also has more cash than debt, so we're pretty confident it can manage its debt safely.

The modesty of its debt load may become crucial for Lubawa if management cannot prevent a repeat of the 94% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is Lubawa's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Lubawa 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. Looking at the most recent three years, Lubawa recorded free cash flow of 49% 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 look at a company's total liabilities, it is very reassuring that Lubawa has zł10.6m in net cash. So we don't have any problem with Lubawa's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Lubawa is showing 2 warning signs in our investment analysis , you should know about...

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.