Is Cobalt Blue Holdings (ASX:COB) Using Debt In A Risky Way?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We note that Cobalt Blue Holdings Limited (ASX:COB) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Cobalt Blue Holdings

What Is Cobalt Blue Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 Cobalt Blue Holdings had AU$2.34m of debt, an increase on AU$2.04m, over one year. But it also has AU$10.5m in cash to offset that, meaning it has AU$8.19m net cash.

How Strong Is Cobalt Blue Holdings' Balance Sheet?

According to the last reported balance sheet, Cobalt Blue Holdings had liabilities of AU$3.42m due within 12 months, and liabilities of AU$2.91m due beyond 12 months. Offsetting this, it had AU$10.5m in cash and AU$712.0k in receivables that were due within 12 months. So it actually has AU$4.91m more liquid assets than total liabilities.

This state of affairs indicates that Cobalt Blue Holdings' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the AU$249.6m company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Cobalt Blue Holdings has more cash than debt is arguably a good indication that it can manage its debt safely. 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 Cobalt Blue Holdings 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.

Since Cobalt Blue Holdings has no significant operating revenue, shareholders probably hope it will develop a valuable new mine before too long.

So How Risky Is Cobalt Blue Holdings?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that Cobalt Blue Holdings had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of AU$13m and booked a AU$5.2m accounting loss. Given it only has net cash of AU$8.19m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Cobalt Blue Holdings has 4 warning signs (and 1 which doesn't sit too well with us) we think 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.