Is Genesis Resources (ASX:GES) A Risky Investment?

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 can see that Genesis Resources Limited (ASX:GES) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Genesis Resources

What Is Genesis Resources's Debt?

As you can see below, at the end of June 2021, Genesis Resources had AU$8.75m of debt, up from AU$6.81m a year ago. Click the image for more detail. However, it also had AU$703.4k in cash, and so its net debt is AU$8.05m.

How Healthy Is Genesis Resources' Balance Sheet?

According to the last reported balance sheet, Genesis Resources had liabilities of AU$11.5m due within 12 months, and liabilities of AU$9.3k due beyond 12 months. Offsetting this, it had AU$703.4k in cash and AU$20.2k in receivables that were due within 12 months. So its liabilities total AU$10.8m more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of AU$11.7m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Genesis 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.

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

Caveat Emptor

Importantly, Genesis Resources had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable AU$1.4m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. Another cause for caution is that is bled AU$1.2m in negative free cash flow over the last twelve months. So suffice it to say we consider the stock very risky. 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. Be aware that Genesis Resources is showing 4 warning signs in our investment analysis , and 3 of those are a bit concerning...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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.

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