We Think Viva Energy Group (ASX:VEA) Is Taking Some Risk With Its Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 note that Viva Energy Group Limited (ASX:VEA) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

View our latest analysis for Viva Energy Group

What Is Viva Energy Group's Net Debt?

As you can see below, at the end of June 2021, Viva Energy Group had AU$106.3m of debt, up from none a year ago. Click the image for more detail. However, its balance sheet shows it holds AU$151.0m in cash, so it actually has AU$44.7m net cash.

How Healthy Is Viva Energy Group's Balance Sheet?

The latest balance sheet data shows that Viva Energy Group had liabilities of AU$2.36b due within a year, and liabilities of AU$2.69b falling due after that. On the other hand, it had cash of AU$151.0m and AU$1.22b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$3.69b.

This deficit is considerable relative to its market capitalization of AU$3.93b, so it does suggest shareholders should keep an eye on Viva Energy Group's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. While it does have liabilities worth noting, Viva Energy Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

We also note that Viva Energy Group improved its EBIT from a last year's loss to a positive AU$571m. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Viva Energy Group's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Viva Energy Group may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent year, Viva Energy Group recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While Viva Energy Group does have more liabilities than liquid assets, it also has net cash of AU$44.7m. So although we see some areas for improvement, we're not too worried about Viva Energy Group's balance sheet. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Viva Energy Group you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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.

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