Here's Why Aurelia Metals (ASX:AMI) Can Manage Its Debt Responsibly

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.' 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 Aurelia Metals Limited (ASX:AMI) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

See our latest analysis for Aurelia Metals

What Is Aurelia Metals's Debt?

The image below, which you can click on for greater detail, shows that Aurelia Metals had debt of AU$5.94m at the end of June 2024, a reduction from AU$7.68m over a year. But it also has AU$116.5m in cash to offset that, meaning it has AU$110.6m net cash.

How Strong Is Aurelia Metals' Balance Sheet?

We can see from the most recent balance sheet that Aurelia Metals had liabilities of AU$81.7m falling due within a year, and liabilities of AU$74.0m due beyond that. Offsetting this, it had AU$116.5m in cash and AU$11.5m in receivables that were due within 12 months. So it has liabilities totalling AU$27.6m more than its cash and near-term receivables, combined.

Of course, Aurelia Metals has a market capitalization of AU$279.1m, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Aurelia Metals also has more cash than debt, so we're pretty confident it can manage its debt safely.

Notably, Aurelia Metals made a loss at the EBIT level, last year, but improved that to positive EBIT of AU$6.3m in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Aurelia Metals 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Aurelia Metals 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. Over the last year, Aurelia Metals actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

We could understand if investors are concerned about Aurelia Metals's liabilities, but we can be reassured by the fact it has has net cash of AU$110.6m. The cherry on top was that in converted 187% of that EBIT to free cash flow, bringing in AU$12m. So we don't have any problem with Aurelia Metals's use of debt. Of course, we wouldn't say no to the extra confidence that we'd gain if we knew that Aurelia Metals insiders have been buying shares: if you're on the same wavelength, you can find out if insiders are buying by clicking this link.

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.