Would Oldfields Holdings (ASX:OLH) Be Better Off With Less Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Oldfields Holdings Limited (ASX:OLH) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Oldfields Holdings

What Is Oldfields Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2022 Oldfields Holdings had debt of AU$4.59m, up from AU$1.06m in one year. However, it also had AU$933.0k in cash, and so its net debt is AU$3.66m.

A Look At Oldfields Holdings' Liabilities

According to the last reported balance sheet, Oldfields Holdings had liabilities of AU$18.7m due within 12 months, and liabilities of AU$2.76m due beyond 12 months. On the other hand, it had cash of AU$933.0k and AU$11.3m worth of receivables due within a year. So it has liabilities totalling AU$9.31m more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of AU$13.0m, so it does suggest shareholders should keep an eye on Oldfields Holdings' use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Oldfields Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Oldfields Holdings reported revenue of AU$33m, which is a gain of 38%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

Despite the top line growth, Oldfields Holdings still had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable AU$2.3m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through AU$2.9m of cash over the last year. So suffice it to say we consider the stock very risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 5 warning signs for Oldfields Holdings (4 are a bit concerning) you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.