We Think Transport Corporation of India (NSE:TCI) Can Manage Its Debt With Ease

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 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 Transport Corporation of India Limited (NSE:TCI) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Transport Corporation of India

What Is Transport Corporation of India's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Transport Corporation of India had ₹1.08b of debt in September 2021, down from ₹2.76b, one year before. However, it does have ₹333.2m in cash offsetting this, leading to net debt of about ₹742.6m.

How Strong Is Transport Corporation of India's Balance Sheet?

The latest balance sheet data shows that Transport Corporation of India had liabilities of ₹2.91b due within a year, and liabilities of ₹954.4m falling due after that. Offsetting this, it had ₹333.2m in cash and ₹4.90b in receivables that were due within 12 months. So it can boast ₹1.36b more liquid assets than total liabilities.

This short term liquidity is a sign that Transport Corporation of India could probably pay off its debt with ease, as its balance sheet is far from stretched. Carrying virtually no net debt, Transport Corporation of India has a very light debt load indeed.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Transport Corporation of India has a low net debt to EBITDA ratio of only 0.21. And its EBIT covers its interest expense a whopping 20.6 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. On top of that, Transport Corporation of India grew its EBIT by 75% over the last twelve months, and that growth will make it easier to handle its debt. 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 Transport Corporation of India can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Transport Corporation of India recorded free cash flow worth a fulsome 89% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

Happily, Transport Corporation of India's impressive interest cover implies it has the upper hand on its debt. And the good news does not stop there, as its conversion of EBIT to free cash flow also supports that impression! We think Transport Corporation of India is no more beholden to its lenders, than the birds are to birdwatchers. For investing nerds like us its balance sheet is almost charming. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Transport Corporation of India you should know about.

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.

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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.