Forus (SNSE:FORUS) Seems To Use Debt Quite Sensibly

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Forus S.A. (SNSE:FORUS) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Forus

What Is Forus's Net Debt?

As you can see below, at the end of September 2020, Forus had CL$2.33b of debt, up from CL$335.6m a year ago. Click the image for more detail. However, its balance sheet shows it holds CL$88.7b in cash, so it actually has CL$86.4b net cash.

How Strong Is Forus's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Forus had liabilities of CL$37.0b due within 12 months and liabilities of CL$29.8b due beyond that. Offsetting these obligations, it had cash of CL$88.7b as well as receivables valued at CL$20.2b due within 12 months. So it can boast CL$42.2b more liquid assets than total liabilities.

This short term liquidity is a sign that Forus could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Forus has more cash than debt is arguably a good indication that it can manage its debt safely.

Importantly, Forus's EBIT fell a jaw-dropping 99% in the last twelve months. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. 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 Forus'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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Forus 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. Over the last three years, Forus actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Forus has net cash of CL$86.4b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CL$25b, being 123% of its EBIT. So we don't have any problem with Forus's use of debt. Even though Forus lost money on the bottom line, its positive EBIT suggests the business itself has potential. So you might want to check out how earnings have been trending over the last few years.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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