Is L.S. Starrett (NYSE:SCX) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that The L.S. Starrett Company (NYSE:SCX) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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 L.S. Starrett

What Is L.S. Starrett's Debt?

The image below, which you can click on for greater detail, shows that at September 2020 L.S. Starrett had debt of US$26.8m, up from US$23.1m in one year. However, because it has a cash reserve of US$11.6m, its net debt is less, at about US$15.3m.

How Healthy Is L.S. Starrett's Balance Sheet?

According to the last reported balance sheet, L.S. Starrett had liabilities of US$29.6m due within 12 months, and liabilities of US$92.6m due beyond 12 months. Offsetting this, it had US$11.6m in cash and US$30.6m in receivables that were due within 12 months. So it has liabilities totalling US$80.0m more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the US$26.8m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, L.S. Starrett would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is L.S. Starrett'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.

Over 12 months, L.S. Starrett made a loss at the EBIT level, and saw its revenue drop to US$199m, which is a fall of 13%. We would much prefer see growth.

Caveat Emptor

While L.S. Starrett's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable US$13m at the EBIT level. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it vaporized US$3.4m in cash over the last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is risky, like walking through a dirty dog park with a mask on. 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. Consider risks, for instance. Every company has them, and we've spotted 2 warning signs for L.S. Starrett you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. 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.
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