TETRA Technologies (NYSE:TTI) Has A Somewhat Strained Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. Importantly, TETRA Technologies, Inc. (NYSE:TTI) does carry debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for TETRA Technologies

What Is TETRA Technologies's Debt?

The chart below, which you can click on for greater detail, shows that TETRA Technologies had US$158.7m in debt in September 2023; about the same as the year before. However, it does have US$33.8m in cash offsetting this, leading to net debt of about US$124.8m.

How Strong Is TETRA Technologies' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that TETRA Technologies had liabilities of US$126.5m due within 12 months and liabilities of US$204.7m due beyond that. Offsetting these obligations, it had cash of US$33.8m as well as receivables valued at US$122.9m due within 12 months. So its liabilities total US$174.6m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since TETRA Technologies has a market capitalization of US$597.1m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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.

Even though TETRA Technologies's debt is only 1.6, its interest cover is really very low at 2.1. This does have us wondering if the company pays high interest because it is considered risky. In any case, it's safe to say the company has meaningful debt. Pleasingly, TETRA Technologies is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 164% gain in the last twelve months. 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 TETRA Technologies 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 we always check how much of that EBIT is translated into free cash flow. Considering the last two years, TETRA Technologies actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Our View

TETRA Technologies's conversion of EBIT to free cash flow and interest cover definitely weigh on it, in our esteem. But the good news is it seems to be able to grow its EBIT with ease. We think that TETRA Technologies's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. 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. For example, we've discovered 1 warning sign for TETRA Technologies that you should be aware of before investing here.

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.