Large-cap companies such as General Motors Company (NYSE:GM), with a market-capitalization of $59.37B, are much sought after by risk-averse investors who find diversified revenue streams and strong capital returns more comforting than explosive growth potential. But another key factor to consider when investing in GM is its financial health. There are always disruptions which destabilize an existing industry, and although large-caps are hard to knock down, it is useful to understand its level of resilience. These factors make a basic understanding of a company’s financial position of utmost importance for a new investor. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. See our latest analysis for General Motors
Does GM face the risk of succumbing to its debt-load?
What is considered a high debt-to-equity ratio differs depending on the industry, because some industries tend to utilize more debt financing than others. A ratio below 40% for large-cap stocks is considered as financially healthy, as a rule of thumb. In the case of GM, the debt-to-equity ratio is over 100%, which means that it is a highly leveraged company. This is not a problem if the company has consistently grown its profits. But during a business downturn, as liquidity may dry up, making it hard to operate. We can test if GM’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings (EBIT) should cover interest by at least three times, therefore reducing concerns when profit is highly volatile. In GM’s case, its interest is excessively covered by its earnings as the ratio sits at 26.48x. Lenders may be less hesitant to lend out more funding as GM’s high interest coverage is seen as responsible and safe practice.
How does GM’s operating cash flow stack up against its debt?
A basic way to evaluate GM’s debt management is to see whether the cash flow generated from the business is at a relatively high level compared to the debt capital invested. This also assesses GM’s debt repayment capacity, which is not a big concern for a large company. Last year, GM’s operating cash flow was 0.16x its current debt. A ratio of over 0.1x shows that GM is generating adequate cash from its core business, which should increase its potential to pay back near-term debt.
Next Steps:
Are you a shareholder? GM’s high debt levels are not met with high cash flow coverage. This means investors should ask themselves if they think GM can improve in terms of debt management and operational efficiency. Given that GM’s financial position may be different in the future, I recommend assessing market expectations for GM’s future growth on our free analysis platform.