These 4 Measures Indicate That Texas Instruments (NASDAQ:TXN) Is Using Debt Reasonably Well

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Texas Instruments Incorporated (NASDAQ:TXN) does use debt in its business. But should shareholders be worried about its use of debt?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Texas Instruments

What Is Texas Instruments's Net Debt?

As you can see below, at the end of March 2023, Texas Instruments had US$10.1b of debt, up from US$7.74b a year ago. Click the image for more detail. However, because it has a cash reserve of US$9.55b, its net debt is less, at about US$581.0m.

A Look At Texas Instruments' Liabilities

According to the last reported balance sheet, Texas Instruments had liabilities of US$2.90b due within 12 months, and liabilities of US$11.1b due beyond 12 months. Offsetting these obligations, it had cash of US$9.55b as well as receivables valued at US$1.88b due within 12 months. So its liabilities total US$2.56b more than the combination of its cash and short-term receivables.

This state of affairs indicates that Texas Instruments' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the US$161.0b company is short on cash, but still worth keeping an eye on the balance sheet. But either way, Texas Instruments has virtually no net debt, so it's fair to say it does not have a heavy debt load!

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Texas Instruments has very little debt (net of cash), and boasts a debt to EBITDA ratio of 0.056 and EBIT of 40.9 times the interest expense. Indeed relative to its earnings its debt load seems light as a feather. But the other side of the story is that Texas Instruments saw its EBIT decline by 2.3% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Texas Instruments 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 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. During the last three years, Texas Instruments produced sturdy free cash flow equating to 67% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Texas Instruments's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But, on a more sombre note, we are a little concerned by its EBIT growth rate. Looking at the bigger picture, we think Texas Instruments's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for Texas Instruments (1 shouldn't be ignored!) 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

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