Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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, Yancoal Australia Ltd (ASX:YAL) does carry debt. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
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. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.
What Is Yancoal Australia's Debt?
The image below, which you can click on for greater detail, shows that at December 2020 Yancoal Australia had debt of AU$4.08b, up from AU$3.40b in one year. However, it also had AU$637.0m in cash, and so its net debt is AU$3.45b.
A Look At Yancoal Australia's Liabilities
Zooming in on the latest balance sheet data, we can see that Yancoal Australia had liabilities of AU$1.20b due within 12 months and liabilities of AU$4.66b due beyond that. Offsetting this, it had AU$637.0m in cash and AU$364.0m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$4.86b.
This deficit casts a shadow over the AU$3.10b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Yancoal Australia would probably need a major re-capitalization if its creditors were to demand repayment. 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 Yancoal Australia 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.
Over 12 months, Yancoal Australia made a loss at the EBIT level, and saw its revenue drop to AU$3.5b, which is a fall of 23%. To be frank that doesn't bode well.
Not only did Yancoal Australia's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at AU$189m. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. For example, we would not want to see a repeat of last year's loss of AU$1.0b. In the meantime, we consider the stock to be 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. We've identified 1 warning sign with Yancoal Australia , and understanding them should be part of your investment process.
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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