Stock Analysis

These 4 Measures Indicate That Nucor (NYSE:NUE) Is Using Debt Reasonably Well

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NYSE:NUE
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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 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 Nucor Corporation (NYSE:NUE) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

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What Is Nucor's Net Debt?

As you can see below, Nucor had US$5.56b of debt, at July 2021, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of US$3.12b, its net debt is less, at about US$2.44b.

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NYSE:NUE Debt to Equity History September 10th 2021

How Strong Is Nucor's Balance Sheet?

The latest balance sheet data shows that Nucor had liabilities of US$3.88b due within a year, and liabilities of US$6.41b falling due after that. Offsetting these obligations, it had cash of US$3.12b as well as receivables valued at US$3.40b due within 12 months. So it has liabilities totalling US$3.77b more than its cash and near-term receivables, combined.

Since publicly traded Nucor shares are worth a very impressive total of US$33.1b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). 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).

Nucor's net debt is only 0.47 times its EBITDA. And its EBIT covers its interest expense a whopping 28.1 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Better yet, Nucor grew its EBIT by 212% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Nucor'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, a company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Nucor produced sturdy free cash flow equating to 52% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Happily, Nucor's impressive interest cover implies it has the upper hand on its debt. And the good news does not stop there, as its EBIT growth rate also supports that impression! Looking at the bigger picture, we think Nucor's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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. Be aware that Nucor is showing 3 warning signs in our investment analysis , and 1 of those is a bit concerning...

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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