Is Lundin Mining (TSE:LUN) A Risky Investment?

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. As with many other companies Lundin Mining Corporation (TSE:LUN) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Lundin Mining

What Is Lundin Mining's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Lundin Mining had US$5.90m of debt in September 2021, down from US$306.9m, one year before. But it also has US$428.3m in cash to offset that, meaning it has US$422.4m net cash.

A Look At Lundin Mining's Liabilities

We can see from the most recent balance sheet that Lundin Mining had liabilities of US$598.8m falling due within a year, and liabilities of US$1.83b due beyond that. On the other hand, it had cash of US$428.3m and US$426.7m worth of receivables due within a year. So its liabilities total US$1.58b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Lundin Mining is worth US$6.46b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Lundin Mining boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that Lundin Mining grew its EBIT by 183% over twelve months. That boost will make it even easier to pay down debt going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Lundin Mining's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Lundin Mining 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. Looking at the most recent three years, Lundin Mining recorded free cash flow of 35% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

Although Lundin Mining's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$422.4m. And we liked the look of last year's 183% year-on-year EBIT growth. So we don't have any problem with Lundin Mining's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Lundin Mining has 1 warning sign we think you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.