Does IPG Photonics (NASDAQ:IPGP) Have A Healthy Balance Sheet?

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. Importantly, IPG Photonics Corporation (NASDAQ:IPGP) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for IPG Photonics

What Is IPG Photonics's Debt?

As you can see below, IPG Photonics had US$15.7m of debt at March 2023, down from US$33.2m a year prior. However, its balance sheet shows it holds US$1.07b in cash, so it actually has US$1.05b net cash.

How Healthy Is IPG Photonics' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that IPG Photonics had liabilities of US$249.5m due within 12 months and liabilities of US$83.1m due beyond that. On the other hand, it had cash of US$1.07b and US$250.4m worth of receivables due within a year. So it actually has US$987.4m more liquid assets than total liabilities.

This surplus suggests that IPG Photonics is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, IPG Photonics boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for IPG Photonics if management cannot prevent a repeat of the 39% 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. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if IPG Photonics can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While IPG Photonics 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. During the last three years, IPG Photonics produced sturdy free cash flow equating to 62% 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.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that IPG Photonics has net cash of US$1.05b, as well as more liquid assets than liabilities. So we don't have any problem with IPG Photonics's use of debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for IPG Photonics that you should be aware of.

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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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.