Is GrainCorp (ASX:GNC) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that GrainCorp Limited (ASX:GNC) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for GrainCorp

What Is GrainCorp's Debt?

As you can see below, at the end of March 2021, GrainCorp had AU$1.53b of debt, up from AU$1.12b a year ago. Click the image for more detail. On the flip side, it has AU$130.8m in cash leading to net debt of about AU$1.40b.

A Look At GrainCorp's Liabilities

The latest balance sheet data shows that GrainCorp had liabilities of AU$1.88b due within a year, and liabilities of AU$376.5m falling due after that. Offsetting this, it had AU$130.8m in cash and AU$535.4m in receivables that were due within 12 months. So it has liabilities totalling AU$1.59b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of AU$1.13b, we think shareholders really should watch GrainCorp's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if GrainCorp can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

In the last year GrainCorp wasn't profitable at an EBIT level, but managed to grow its revenue by 19%, to AU$4.3b. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Over the last twelve months GrainCorp produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at AU$53m. Considering that alongside the liabilities mentioned above make us nervous about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. On the bright side, we note that trailing twelve month EBIT is worse than the free cash flow of AU$6.7m and the profit of AU$7.9m. So there is definitely a chance that it can improve things in the next few years. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 3 warning signs for GrainCorp (2 are significant!) that you should be aware of before investing here.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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This article by Simply Wall St is general in nature. 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.
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