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 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 note that Ternium S.A. (NYSE:TX) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. When we think about a company's use of debt, we first look at cash and debt together.

What Is Ternium's Net Debt?

The chart below, which you can click on for greater detail, shows that Ternium had US$2.19b in debt in September 2024; about the same as the year before. But on the other hand it also has US$3.86b in cash, leading to a US$1.67b net cash position.

How Healthy Is Ternium's Balance Sheet?

We can see from the most recent balance sheet that Ternium had liabilities of US$4.02b falling due within a year, and liabilities of US$3.59b due beyond that. Offsetting these obligations, it had cash of US$3.86b as well as receivables valued at US$2.84b due within 12 months. So it has liabilities totalling US$919.0m more than its cash and near-term receivables, combined.

Of course, Ternium has a market capitalization of US$6.96b, so these liabilities are probably manageable. 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, Ternium also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that Ternium has boosted its EBIT by 99%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Ternium's ability to maintain a healthy balance sheet going forward. 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. Ternium may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Ternium recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

Although Ternium's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$1.67b. And it impressed us with its EBIT growth of 99% over the last year. So we don't think Ternium's use of debt is risky. 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 instance, we've identified 3 warning signs for Ternium (1 is potentially serious) you should be aware of.

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.