Here's Why Suncor Energy (TSE:SU) Can Manage Its Debt Responsibly

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. Importantly, Suncor Energy Inc. (TSE:SU) does carry debt. But is this debt a concern to shareholders?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Suncor Energy

How Much Debt Does Suncor Energy Carry?

The image below, which you can click on for greater detail, shows that Suncor Energy had debt of CA$12.0b at the end of December 2023, a reduction from CA$13.0b over a year. On the flip side, it has CA$1.73b in cash leading to net debt of about CA$10.3b.

How Strong Is Suncor Energy's Balance Sheet?

We can see from the most recent balance sheet that Suncor Energy had liabilities of CA$9.60b falling due within a year, and liabilities of CA$35.7b due beyond that. On the other hand, it had cash of CA$1.73b and CA$6.65b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$36.9b.

Suncor Energy has a very large market capitalization of CA$67.3b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Suncor Energy has a low net debt to EBITDA ratio of only 0.64. And its EBIT easily covers its interest expense, being 18.4 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. In fact Suncor Energy's saving grace is its low debt levels, because its EBIT has tanked 44% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Suncor Energy can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Suncor Energy produced sturdy free cash flow equating to 74% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

Suncor Energy's EBIT growth rate was a real negative on this analysis, although the other factors we considered were considerably better. There's no doubt that its ability to to cover its interest expense with its EBIT is pretty flash. When we consider all the factors mentioned above, we do feel a bit cautious about Suncor Energy's use of debt. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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. For instance, we've identified 2 warning signs for Suncor Energy (1 is concerning) you should be aware of.

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.