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Toromont Industries Ltd. (TSE:TIH): Time For A Financial Health Check

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Toromont Industries Ltd. (TSE:TIH) is a small-cap stock with a market capitalization of CA$5.1b. While investors primarily focus on the growth potential and competitive landscape of the small-cap companies, they end up ignoring a key aspect, which could be the biggest threat to its existence: its financial health. Why is it important? Assessing first and foremost the financial health is crucial, since poor capital management may bring about bankruptcies, which occur at a higher rate for small-caps. Let's work through some financial health checks you may wish to consider if you're interested in this stock. Nevertheless, potential investors would need to take a closer look, and I recommend you dig deeper yourself into TIH here.

TIH’s Debt (And Cash Flows)

TIH's debt levels have fallen from CA$746m to CA$678m over the last 12 months – this includes long-term debt. With this debt payback, TIH currently has CA$184m remaining in cash and short-term investments , ready to be used for running the business. On top of this, TIH has produced CA$227m in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 34%, signalling that TIH’s operating cash is sufficient to cover its debt.

Can TIH meet its short-term obligations with the cash in hand?

With current liabilities at CA$1.0b, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.62x. The current ratio is the number you get when you divide current assets by current liabilities. Usually, for Trade Distributors companies, this is a suitable ratio since there's a sufficient cash cushion without leaving too much capital idle or in low-earning investments.

TSX:TIH Historical Debt, July 12th 2019
TSX:TIH Historical Debt, July 12th 2019

Can TIH service its debt comfortably?

TIH is a relatively highly levered company with a debt-to-equity of 48%. This is somewhat unusual for small-caps companies, since lenders are often hesitant to provide attractive interest rates to less-established businesses. We can test if TIH’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For TIH, the ratio of 19.33x suggests that interest is comfortably covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.

Next Steps:

Although TIH’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. Since there is also no concerns around TIH's liquidity needs, this may be its optimal capital structure for the time being. This is only a rough assessment of financial health, and I'm sure TIH has company-specific issues impacting its capital structure decisions. I suggest you continue to research Toromont Industries to get a more holistic view of the small-cap by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for TIH’s future growth? Take a look at our free research report of analyst consensus for TIH’s outlook.

  2. Valuation: What is TIH worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether TIH is currently mispriced by the market.

  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.

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