Here's Why Fertilisers and Chemicals Travancore (NSE:FACT) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 can see that The Fertilisers and Chemicals Travancore Limited (NSE:FACT) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Fertilisers and Chemicals Travancore

What Is Fertilisers and Chemicals Travancore's Debt?

As you can see below, Fertilisers and Chemicals Travancore had ₹17.8b of debt, at September 2023, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has ₹27.5b in cash, leading to a ₹9.70b net cash position.

How Strong Is Fertilisers and Chemicals Travancore's Balance Sheet?

We can see from the most recent balance sheet that Fertilisers and Chemicals Travancore had liabilities of ₹41.7b falling due within a year, and liabilities of ₹2.14b due beyond that. Offsetting this, it had ₹27.5b in cash and ₹5.03b in receivables that were due within 12 months. So it has liabilities totalling ₹11.2b more than its cash and near-term receivables, combined.

Since publicly traded Fertilisers and Chemicals Travancore shares are worth a total of ₹471.5b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Fertilisers and Chemicals Travancore also has more cash than debt, so we're pretty confident it can manage its debt safely.

Importantly, Fertilisers and Chemicals Travancore's EBIT fell a jaw-dropping 23% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Fertilisers and Chemicals Travancore's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Fertilisers and Chemicals Travancore 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 most recent three years, Fertilisers and Chemicals Travancore recorded free cash flow worth 78% 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.

Summing Up

We could understand if investors are concerned about Fertilisers and Chemicals Travancore's liabilities, but we can be reassured by the fact it has has net cash of ₹9.70b. The cherry on top was that in converted 78% of that EBIT to free cash flow, bringing in ₹9.9b. So we don't have any problem with Fertilisers and Chemicals Travancore's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 1 warning sign with Fertilisers and Chemicals Travancore , and understanding them should be part of your investment process.

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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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.