Is CI Resources (ASX:CII) A Risky Investment?

Warren Buffett famously said, '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. As with many other companies CI Resources Limited (ASX:CII) makes use of debt. But is this debt a concern to shareholders?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. 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 CI Resources

What Is CI Resources's Debt?

As you can see below, CI Resources had AU$16.6m of debt at December 2020, down from AU$17.8m a year prior. But on the other hand it also has AU$47.6m in cash, leading to a AU$31.0m net cash position.

How Strong Is CI Resources' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that CI Resources had liabilities of AU$22.2m due within 12 months and liabilities of AU$35.2m due beyond that. On the other hand, it had cash of AU$47.6m and AU$38.0m worth of receivables due within a year. So it can boast AU$28.2m more liquid assets than total liabilities.

This excess liquidity suggests that CI Resources is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, CI Resources boasts net cash, so it's fair to say it does not have a heavy debt load!

Better yet, CI Resources grew its EBIT by 203% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since CI Resources will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While CI Resources has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, CI Resources produced sturdy free cash flow equating to 57% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to investigate a company's debt, in this case CI Resources has AU$31.0m in net cash and a decent-looking balance sheet. And we liked the look of last year's 203% year-on-year EBIT growth. So we don't think CI Resources's use of debt is 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for CI Resources (of which 1 can't be ignored!) you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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This article by Simply Wall St is general in nature. 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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