Toromont Industries (TSE:TIH) Seems To Use Debt Quite Sensibly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Toromont Industries Ltd. (TSE:TIH) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Toromont Industries

How Much Debt Does Toromont Industries Carry?

The chart below, which you can click on for greater detail, shows that Toromont Industries had CA$647.6m in debt in September 2023; about the same as the year before. However, its balance sheet shows it holds CA$807.4m in cash, so it actually has CA$159.8m net cash.

How Healthy Is Toromont Industries' Balance Sheet?

We can see from the most recent balance sheet that Toromont Industries had liabilities of CA$962.9m falling due within a year, and liabilities of CA$811.5m due beyond that. Offsetting these obligations, it had cash of CA$807.4m as well as receivables valued at CA$637.6m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$329.4m.

Given Toromont Industries has a market capitalization of CA$9.31b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Toromont Industries also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also positive, Toromont Industries grew its EBIT by 27% in the last year, and that should make it easier to pay down debt, going forward. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Toromont Industries'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. Toromont Industries may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Toromont Industries recorded free cash flow of 42% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

We could understand if investors are concerned about Toromont Industries's liabilities, but we can be reassured by the fact it has has net cash of CA$159.8m. And it impressed us with its EBIT growth of 27% over the last year. So we don't think Toromont Industries's use of debt is risky. We'd be motivated to research the stock further if we found out that Toromont Industries insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

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.