Is EQ Resources (ASX:EQR) Using Too Much Debt?

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. We note that EQ Resources Limited (ASX:EQR) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for EQ Resources

How Much Debt Does EQ Resources Carry?

The image below, which you can click on for greater detail, shows that at December 2021 EQ Resources had debt of AU$2.65m, up from none in one year. However, its balance sheet shows it holds AU$4.51m in cash, so it actually has AU$1.85m net cash.

How Healthy Is EQ Resources' Balance Sheet?

The latest balance sheet data shows that EQ Resources had liabilities of AU$9.73m due within a year, and liabilities of AU$3.13m falling due after that. Offsetting this, it had AU$4.51m in cash and AU$1.88m in receivables that were due within 12 months. So its liabilities total AU$6.46m more than the combination of its cash and short-term receivables.

Given EQ Resources has a market capitalization of AU$73.9m, it's hard to believe these liabilities pose much threat. 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, EQ Resources also has more cash than debt, so we're pretty confident it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is EQ 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.

In the last year EQ Resources's revenue was pretty flat, and it made a negative EBIT. While that's not too bad, we'd prefer see growth.

So How Risky Is EQ Resources?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And we do note that EQ Resources had an earnings before interest and tax (EBIT) loss, over the last year. Indeed, in that time it burnt through AU$9.1m of cash and made a loss of AU$5.2m. With only AU$1.85m on the balance sheet, it would appear that its going to need to raise capital again soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. 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. Be aware that EQ Resources is showing 4 warning signs in our investment analysis , and 1 of those doesn't sit too well with us...

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.