Is Greenvale Energy (ASX:GRV) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Greenvale Energy Ltd (ASX:GRV) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Greenvale Energy

What Is Greenvale Energy's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2023 Greenvale Energy had debt of AU$3.31m, up from none in one year. However, it does have AU$3.24m in cash offsetting this, leading to net debt of about AU$73.3k.

A Look At Greenvale Energy's Liabilities

The latest balance sheet data shows that Greenvale Energy had liabilities of AU$3.54m due within a year, and liabilities of AU$29.5k falling due after that. On the other hand, it had cash of AU$3.24m and AU$184.4k worth of receivables due within a year. So its liabilities total AU$145.0k more than the combination of its cash and short-term receivables.

This state of affairs indicates that Greenvale Energy's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the AU$32.6m company is short on cash, but still worth keeping an eye on the balance sheet. Carrying virtually no net debt, Greenvale Energy has a very light debt load indeed. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Greenvale Energy will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Given its lack of meaningful operating revenue, Greenvale Energy shareholders no doubt hope it can fund itself until it can sell some combustibles.

Caveat Emptor

Over the last twelve months Greenvale Energy produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at AU$2.3m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled AU$4.5m in negative free cash flow over the last twelve months. So suffice it to say we consider the stock very risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 5 warning signs with Greenvale Energy (at least 3 which don't sit too well with us) , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.