Central Petroleum (ASX:CTP) Has Debt But No Earnings; Should You Worry?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Central Petroleum Limited (ASX:CTP) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Central Petroleum

How Much Debt Does Central Petroleum Carry?

You can click the graphic below for the historical numbers, but it shows that Central Petroleum had AU$29.7m of debt in December 2022, down from AU$34.8m, one year before. On the flip side, it has AU$13.7m in cash leading to net debt of about AU$16.0m.

How Healthy Is Central Petroleum's Balance Sheet?

The latest balance sheet data shows that Central Petroleum had liabilities of AU$19.6m due within a year, and liabilities of AU$65.2m falling due after that. Offsetting these obligations, it had cash of AU$13.7m as well as receivables valued at AU$7.28m due within 12 months. So it has liabilities totalling AU$63.9m more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of AU$51.0m, we think shareholders really should watch Central Petroleum's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Central Petroleum 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 Central Petroleum had a loss before interest and tax, and actually shrunk its revenue by 35%, to AU$35m. That makes us nervous, to say the least.

Caveat Emptor

Not only did Central Petroleum's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping AU$19m. 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. Not least because it burned through AU$4.1m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Central Petroleum that 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.