These 4 Measures Indicate That Gold Road Resources (ASX:GOR) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 note that Gold Road Resources Limited (ASX:GOR) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Gold Road Resources

What Is Gold Road Resources's Debt?

You can click the graphic below for the historical numbers, but it shows that Gold Road Resources had AU$23.7m of debt in June 2020, down from AU$63.1m, one year before. However, its balance sheet shows it holds AU$73.7m in cash, so it actually has AU$50.0m net cash.

How Healthy Is Gold Road Resources's Balance Sheet?

According to the last reported balance sheet, Gold Road Resources had liabilities of AU$48.7m due within 12 months, and liabilities of AU$173.7m due beyond 12 months. Offsetting these obligations, it had cash of AU$73.7m as well as receivables valued at AU$2.23m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$146.5m.

Of course, Gold Road Resources has a market capitalization of AU$1.12b, so these liabilities are probably manageable. 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, Gold Road Resources also has more cash than debt, so we're pretty confident it can manage its debt safely.

It was also good to see that despite losing money on the EBIT line last year, Gold Road Resources turned things around in the last 12 months, delivering and EBIT of AU$56m. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Gold Road Resources's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Gold Road Resources may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last year, Gold Road Resources actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

Although Gold Road Resources's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of AU$50.0m. The cherry on top was that in converted 124% of that EBIT to free cash flow, bringing in AU$69m. So we don't think Gold Road Resources's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider risks, for instance. Every company has them, and we've spotted 1 warning sign for Gold Road Resources you should know about.

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.

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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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