Net Debt is the difference between a company’s total interest-bearing debt and its cash and cash equivalents. It indicates the company’s debt position after accounting for available liquidity that could be used to repay debts.
Why is Net Debt Important?
Net Debt is important because it:
Shows True Leverage: Provides a clearer picture of indebtedness by offsetting debt with cash resources.
Informs Credit Analysis: Creditors and investors use Net Debt to assess the risk of default and the ability to service debt.
Guides Capital Allocation: Helps management decide on financing strategies, such as using excess cash to pay down debt versus investing in growth.
How is Net Debt Calculated?
Net Debt is calculated using the formula:
Net Debt = Total Debt − Cash and Cash Equivalents
Where:
Total Debt includes both short-term and long-term interest-bearing borrowings (e.g., bank loans, bonds, lease obligations).
Cash and Cash Equivalents are the most liquid assets, including currency, bank deposits, and short-term marketable securities.
For example, if a company has $150 million in total debt and $50 million in cash, its Net Debt is $100 million.
Additional Considerations
Net Debt to EBITDA: Comparing Net Debt to EBITDA provides a leverage ratio used to evaluate debt servicing capacity.
Impact of Restricted Cash: Some cash may be restricted and not available for debt repayment; analysts adjust for this in Net Debt calculations.
Working Capital Effects: Companies may also consider short-term investments and working capital adjustments for a more comprehensive liquidity analysis.