There are two big risks currently enveloping oil and gas producer Santos Ltd (ASX: STO) like poisonous fog. The first is the price of oil, something the company has almost no control over.
The second fear is how far the company's cash position stretches and Santos' ability to meet debt obligations. This is an area management has at least some control over. So how bad is Santos' debt really?
Here are three important ratios to put Santos' debt in perspective.
Liquidity
First, we want to check Santos' liquidity and make sure the company has enough short-term assets to pay its short term obligations.
The 'Quick' ratio shows us how much cash, receivables and short-term financial assets Santos has as a percentage of its current liabilities, so the higher the better. According to Santos' first half accounts, at 30 June 2015 the company held just $0.60 for every dollar of short-term (current) liabilities it owed, down from $0.80 at 31 December 2014.
This isn't good, especially when compared to the Reuters industry average of $1.08. However when we add in the company's inventory of unsold oil and gas the number jumps up to $1 of assets per $1 of current liabilities. This is the same as the company held when it last reported on 31 December 2014 and suggests that, because of rising inventories, Santos has just enough to meet its short-term liabilities.
Solvency
Solvency relates to how much long-term debt Santos has and the company's ability to pay the interest it incurs. This is especially important since Santos noted that debt jumped by $500 million due to the falling Aussie dollar.
At 30 June 2015 Santos' total debt as a percentage of capital had increased only marginally to 48%, from 47% at 31 December 2014.
Finally, with a big fall in earnings, can Santos still meet its interest payments on the $8.6 billion mountain of debt it owes?
The measure here is interest coverage, which is the number of times Santos' Earnings Before Interest and Tax (EBIT) can cover the interest expense. Like the Quick ratio, the higher the better for investors.
Santos' interest coverage ratio has plummeted from 7.7x at 31 December 2014, to just 1.7x at 30 June 2015, driven by falling earnings and a big increase in finance costs.
| Measure | 31 December 2014 | 30 June 2015 |
| Quick ratio | 0.8 | 0.6 |
| Total debt to capital ratio | 0.47 | 0.48 |
| Interest coverage ratio | 7.7 | 1.7 |
What it means for you
The biggest risk for Santos investors is the slim interest coverage ratio, especially while the price of oil continues to fall. Although the company's huge GLNG project is due to deliver its first LNG in the second half of 2015, if earnings do get driven down further there may be a need to find additional capital to cover interest payments.
