Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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, Audalia Resources Limited (ASX:ACP) does carry debt. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for Audalia Resources
What Is Audalia Resources's Debt?
You can click the graphic below for the historical numbers, but it shows that as of June 2021 Audalia Resources had AU$3.63m of debt, an increase on AU$3.08m, over one year. And it doesn't have much cash, so its net debt is about the same.
A Look At Audalia Resources' Liabilities
Zooming in on the latest balance sheet data, we can see that Audalia Resources had liabilities of AU$950.0k due within 12 months and liabilities of AU$5.31m due beyond that. Offsetting these obligations, it had cash of AU$70.8k as well as receivables valued at AU$34.0k due within 12 months. So it has liabilities totalling AU$6.16m more than its cash and near-term receivables, combined.
This deficit is considerable relative to its market capitalization of AU$6.23m, so it does suggest shareholders should keep an eye on Audalia Resources' use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. There's no doubt that we learn most about debt from the balance sheet. But it is Audalia Resources's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Given its lack of meaningful operating revenue, investors are probably hoping that Audalia Resources finds some valuable resources, before it runs out of money.
Caveat Emptor
Importantly, Audalia Resources had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost AU$319k at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through AU$1.3m of cash over the last year. 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. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 5 warning signs we've spotted with Audalia Resources (including 3 which are significant) .
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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.
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About ASX:ACP
Audalia Resources
Engages in the exploration and evaluation of mineral properties in Australia.
Moderate with imperfect balance sheet.
