Does Freeport-McMoRan (NYSE:FCX) Have A Healthy Balance Sheet?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Freeport-McMoRan Inc. (NYSE:FCX) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Freeport-McMoRan

What Is Freeport-McMoRan's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2022 Freeport-McMoRan had US$10.7b of debt, an increase on US$9.67b, over one year. However, it also had US$8.58b in cash, and so its net debt is US$2.11b.

How Healthy Is Freeport-McMoRan's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Freeport-McMoRan had liabilities of US$6.00b due within 12 months and liabilities of US$19.7b due beyond that. Offsetting these obligations, it had cash of US$8.58b as well as receivables valued at US$1.33b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$15.8b.

This deficit isn't so bad because Freeport-McMoRan is worth a massive US$54.3b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Freeport-McMoRan has a low net debt to EBITDA ratio of only 0.21. And its EBIT easily covers its interest expense, being 14.0 times the size. So we're pretty relaxed about its super-conservative use of debt. Fortunately, Freeport-McMoRan grew its EBIT by 7.2% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Freeport-McMoRan'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. In the last three years, Freeport-McMoRan's free cash flow amounted to 48% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

Freeport-McMoRan's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And that's just the beginning of the good news since its net debt to EBITDA is also very heartening. All these things considered, it appears that Freeport-McMoRan can comfortably handle its current debt levels. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Freeport-McMoRan has 2 warning signs (and 1 which is a bit concerning) we think you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.