Would Eagle Mountain Mining (ASX:EM2) Be Better Off With Less Debt?

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.' 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. As with many other companies Eagle Mountain Mining Limited (ASX:EM2) makes use of debt. But the real question is whether this debt is making the company risky.

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Eagle Mountain Mining

What Is Eagle Mountain Mining's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2024 Eagle Mountain Mining had AU$14.3m of debt, an increase on AU$12.9m, over one year. However, it does have AU$3.12m in cash offsetting this, leading to net debt of about AU$11.2m.

How Healthy Is Eagle Mountain Mining's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Eagle Mountain Mining had liabilities of AU$6.24m due within 12 months and liabilities of AU$8.83m due beyond that. Offsetting these obligations, it had cash of AU$3.12m as well as receivables valued at AU$12.7k due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$11.9m.

This deficit is considerable relative to its market capitalization of AU$16.1m, so it does suggest shareholders should keep an eye on Eagle Mountain Mining's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Eagle Mountain Mining 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.

Given its lack of meaningful operating revenue, investors are probably hoping that Eagle Mountain Mining finds some valuable resources, before it runs out of money.

Caveat Emptor

Importantly, Eagle Mountain Mining had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping AU$6.0m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any 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$5.2m of cash over the last year. So suffice it to say we consider the stock very risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 5 warning signs for Eagle Mountain Mining you should be aware of, and 3 of them are a bit concerning.

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.