L3Harris Technologies (NYSE:LHX) Seems To Use Debt Quite Sensibly

By
Simply Wall St
Published
April 18, 2022
NYSE:LHX
Source: Shutterstock

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 L3Harris Technologies, Inc. (NYSE:LHX) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for L3Harris Technologies

What Is L3Harris Technologies's Debt?

The chart below, which you can click on for greater detail, shows that L3Harris Technologies had US$6.90b in debt in December 2021; about the same as the year before. On the flip side, it has US$941.0m in cash leading to net debt of about US$5.96b.

debt-equity-history-analysis
NYSE:LHX Debt to Equity History April 18th 2022

A Look At L3Harris Technologies' Liabilities

According to the last reported balance sheet, L3Harris Technologies had liabilities of US$4.55b due within 12 months, and liabilities of US$10.8b due beyond 12 months. On the other hand, it had cash of US$941.0m and US$4.16b worth of receivables due within a year. So its liabilities total US$10.3b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since L3Harris Technologies has a huge market capitalization of US$49.7b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

L3Harris Technologies's net debt to EBITDA ratio of about 1.6 suggests only moderate use of debt. And its strong interest cover of 10.1 times, makes us even more comfortable. The good news is that L3Harris Technologies has increased its EBIT by 4.4% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if L3Harris Technologies can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. Over the most recent three years, L3Harris Technologies recorded free cash flow worth 80% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Our View

L3Harris Technologies's conversion of EBIT to free cash flow suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And that's just the beginning of the good news since its interest cover is also very heartening. When we consider the range of factors above, it looks like L3Harris Technologies is pretty sensible with its use of debt. While that brings some risk, it can also enhance returns for shareholders. We'd be motivated to research the stock further if we found out that L3Harris Technologies insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

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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