Howard Marks says that instead of worrying about stock price fluctuations, “the possibility of permanent loss is the risk I worry about…and every practicing investor I know worries about that.” You expressed it well. When we think about a company’s risk, we always look at its use of debt. Because too much debt can lead to ruin. We can see that Lam Research Corporation (NASDAQ:LRCX) does indeed use debt in its business. But should shareholders be worried about its use of debt?
What risks does debt pose?
Generally, debt only becomes a real problem when a company cannot easily pay off the debt, either by raising capital or with its own cash flow. The essence of capitalism is a process of “creative destruction” in which failing companies are ruthlessly liquidated by bankers. But a more frequent (and still costly) occurrence is when a company must issue stock at a bargain price, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in business, especially in 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 Lam Research.
What is Lam Research’s net debt?
As you can see below, Lam Research had debt of US$4.97b at June 2024, which is about the same as a year ago. Click on the graph to see details. However, its balance sheet shows it has US$5.85b in cash, so it actually has US$880.5m net cash.
NasdaqGS:LRCX Debt to Equity Transition October 12, 2024
How healthy is Lam Research’s balance sheet?
The latest balance sheet data shows that Lam Research had liabilities of US$4.34b falling due within a year, and liabilities of US$5.87b falling due beyond that. Offsetting these obligations, the company had cash of US$5.85b and receivables valued at US$2.52b that were due within 12 months. So its liabilities total US$1.84b more than its cash and short-term receivables, combined.
This situation indicates that Lam Research’s balance sheet is very strong, as total liabilities are approximately equal to current assets. So while it’s unlikely that the US$106.4b company is struggling with cash flow, we still think it’s worth keeping an eye on its balance sheet. While it does have notable debt, Lam Research has more cash than debt, so we’re fairly confident that it can manage its debt safely.
Meanwhile, Lam Research’s EBIT has plummeted 18% over the past year. If the rate of decline in profits continues, the company could find itself in trouble. There’s no question that we learn most about debt from the balance sheet. But more than anything else, future earnings will determine Lam Research’s ability to maintain a healthy balance sheet going forward. So if you want to see what the experts think, you might find this free report on analyst profit forecasts to be interesting.
But final considerations are also important. This is because companies cannot pay their debts with paper profits. I need cold cash. Lam Research has net cash on its balance sheet, but to understand how quickly that cash is being built (or eroded), we can calculate its earnings before interest and taxes (EBIT). It’s still worth considering the company’s ability to convert that into free cash flow. balance. Over the last three years, Lam Research recorded free cash flow equal to 77% of its EBIT. This is about normal considering free cash flow does not include interest and taxes. This free cash flow puts the company in a good position to pay down debt as needed.
summary
It’s always wise to look at a company’s total debt, but it’s very encouraging to see that Lam Research has net cash of US$880.5m. The most impressive thing is that 77% of its EBIT was converted into free cash flow, yielding US$4.3b. Therefore, there is nothing wrong with Lam Research’s use of debt. Of course, we wouldn’t say no to knowing that Lam Research insiders are buying shares, which gives us more confidence. If you think the same way, you can click this to find out if insiders are buying shares. link.
At the end of the day, it’s often better to focus on companies with no net debt. You will have access to a special list of such companies – companies with a track record of profit growth. It’s free.
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This article by Simply Wall St is general in nature. We provide commentary using only unbiased methodologies, based on historical data and analyst forecasts, and articles are not intended to be financial advice. This is not a recommendation to buy or sell any stock, and does not take into account your objectives or financial situation. We aim to provide long-term, focused analysis based on fundamental data. Note that our analysis may not factor in the latest announcements or qualitative material from price-sensitive companies. Simply Wall St has no position in any stocks mentioned.
