Here's Why Nagambie Resources (ASX:NAG) Can Afford Some Debt

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Nagambie Resources Limited (ASX:NAG) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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. 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 Nagambie Resources

What Is Nagambie Resources's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2021 Nagambie Resources had debt of AU$7.13m, up from AU$4.53m in one year. However, because it has a cash reserve of AU$3.40m, its net debt is less, at about AU$3.74m.

How Strong Is Nagambie Resources' Balance Sheet?

The latest balance sheet data shows that Nagambie Resources had liabilities of AU$703.3k due within a year, and liabilities of AU$7.22m falling due after that. Offsetting this, it had AU$3.40m in cash and AU$76.3k in receivables that were due within 12 months. So it has liabilities totalling AU$4.45m more than its cash and near-term receivables, combined.

Of course, Nagambie Resources has a market capitalization of AU$35.5m, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. There's no doubt that we learn most about debt from the balance sheet. But it is Nagambie 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.

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

Caveat Emptor

Importantly, Nagambie Resources had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at AU$1.2m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much 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$2.0m of cash over the last year. 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 Nagambie Resources is showing 4 warning signs in our investment analysis , and 2 of those 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.

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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