Does LSB Industries (NYSE: LXU) have a healthy balance sheet?

David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ So it can be obvious that you need to consider debt, when you think about how risky a given stock is, because too much debt can sink a business. We can see that LSB Industries, Inc. (NYSE: LXU) uses debt in its business. But the real question is whether this debt makes the business risky.

When is Debt a Problem?

Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, debt can be an important tool in businesses, especially capital intensive businesses. The first step in examining a business’s debt levels is to consider its cash flow and debt together.

What is LSB Industries’ net debt?

The graph below, which you can click for more details, shows that LSB Industries had $ 471.0 million in debt as of September 2021; about the same as the year before. However, because it has a cash reserve of US $ 32.9 million, its net debt is less, at approximately US $ 438.1 million.

NYSE Debt to Equity History: LXU January 7, 2022

Is LSB Industries’ balance sheet healthy?

The latest balance sheet data shows that LSB Industries had debts of $ 134.8 million due within one year, and debts of $ 516.7 million due thereafter. In return, he had $ 32.9 million in cash and $ 65.7 million in receivables due within 12 months. As a result, its liabilities exceed the sum of its cash and (short-term) receivables by $ 552.9 million.

While that might sound like a lot, it’s not that bad since LSB Industries has a market cap of $ 938.0 million, and therefore could likely strengthen its balance sheet by raising capital if needed. But we absolutely want to keep our eyes open for indications that its debt is too risky.

We measure a company’s indebtedness relative to its earning capacity by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating the ease with which its earnings before interest and taxes (EBIT ) covers its interests. costs (interest coverage). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.

While LSB Industries’ debt-to-EBITDA ratio (4.8) suggests that it is using some debt, its interest coverage is very low, at 0.42, suggesting high leverage. In large part, this is due to the company’s large depreciation and amortization charges, which arguably means that its EBITDA is a very generous measure of earnings, and its debt may be heavier than it appears. At first glance. It seems clear that the cost of borrowing money is negatively impacting shareholder returns lately. However, the bright side is that LSB Industries achieved a positive EBIT of US $ 21 million over the past twelve months, an improvement over the loss of the previous year. There is no doubt that we learn the most about debt from the balance sheet. But ultimately, the company’s future profitability will decide whether LSB Industries can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free Analyst Profit Forecast report interesting.

Finally, a business needs free cash flow to pay off debts; accounting profits are not enough. It is therefore worth checking to what extent earnings before interest and taxes (EBIT) is supported by free cash flow. Last year, LSB Industries created free cash flow of 19% of its EBIT, a performance without interest. This low level of cash conversion undermines its ability to manage and repay its debts.

Our point of view

Reflecting on LSB Industries’ attempt to cover its interest costs with its EBIT, we are certainly not enthusiastic. But at least its EBIT growth rate isn’t that bad. Looking at the big picture, it seems clear to us that LSB Industries’ recourse to debt creates risks for the company. If all goes well, this should increase returns, but on the other hand, the risk of permanent capital loss is increased by debt. The balance sheet is clearly the area to focus on when analyzing debt. However, not all investment risks lie on the balance sheet – far from it. For example, we have identified 2 warning signs for LSB Industries (1 cannot be ignored) you must be aware.

Of course, if you are the type of investor who prefers to buy stocks without going into debt, feel free to check out our exclusive list of cash net growth stocks today.

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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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