Lumen Technologies (NYSE:LUMN) Has A Somewhat Strained Balance Sheet – Simply Wall St
Stock Analysis
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.' 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. We can see that Lumen Technologies, Inc. (NYSE:LUMN) does use debt in its business. But the real question is whether this debt is making the company risky.
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Lumen Technologies
You can click the graphic below for the historical numbers, but it shows that Lumen Technologies had US$24.9b of debt in September 2022, down from US$29.4b, one year before. Net debt is about the same, since the it doesn't have much cash.
We can see from the most recent balance sheet that Lumen Technologies had liabilities of US$8.72b falling due within a year, and liabilities of US$33.5b due beyond that. On the other hand, it had cash of US$252.0m and US$1.55b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$40.4b.
This deficit casts a shadow over the US$5.47b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Lumen Technologies would likely require a major re-capitalisation if it had to pay its creditors today.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
Lumen Technologies has a debt to EBITDA ratio of 3.5 and its EBIT covered its interest expense 2.6 times. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Investors should also be troubled by the fact that Lumen Technologies saw its EBIT drop by 11% over the last twelve months. If that's the way things keep going handling the debt load will be like delivering hot coffees on a pogo stick. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Lumen Technologies can strengthen its balance sheet over time. 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 we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, Lumen Technologies recorded free cash flow worth 79% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.
We'd go so far as to say Lumen Technologies's level of total liabilities was disappointing. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Overall, it seems to us that Lumen Technologies's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. 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. Case in point: We've spotted 3 warning signs for Lumen Technologies you should be aware of, and 2 of them are a bit concerning.
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.
Find out whether Lumen Technologies is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.
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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.
Lumen Technologies, Inc., a facilities-based technology and communications company, provides various integrated products and services under the Lumen, Quantum Fiber, and CenturyLink brands to business and residential customers in the United States and internationally.
The Snowflake is a visual investment summary with the score of each axis being calculated by 6 checks in 5 areas.
Read more about these checks in the individual report sections or in our analysis model.
Undervalued with questionable track record.
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