Leverage

Leverage is equally important in assessing the financial health of any company. Concurrent with cash flow and liquidity, a company must be able to service its debt obligations. Downturns in the commodity cycle will place pressure on leverage ratios for both IOCs and NOCs alike. Small-cap firms such as oil juniors are particularly vulnerable as decreases in cash flow can increase leverage ratios.

We favor those companies with conservative balance sheets and those with financial flexibility to withstand economic downturns. Access to capital is always important, as is cash balances.

  • EBIT/Interest expense or EBITDA/Interest expense
  • Total Debt/EBITDA or Net Debt/EBITDA
  • Total Debt/Capital where capital = (total debt + equity)

Table 3.2

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