Does Regis Resources (ASX:RRL) Have A Healthy Balance Sheet?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 can see that Regis Resources Limited (ASX:RRL) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Regis Resources

What Is Regis Resources's Debt?

The chart below, which you can click on for greater detail, shows that Regis Resources had AU$296.7m in debt in December 2023; about the same as the year before. However, it does have AU$55.6m in cash offsetting this, leading to net debt of about AU$241.1m.

How Strong Is Regis Resources' Balance Sheet?

The latest balance sheet data shows that Regis Resources had liabilities of AU$145.9m due within a year, and liabilities of AU$666.2m falling due after that. On the other hand, it had cash of AU$55.6m and AU$63.2m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$693.4m.

While this might seem like a lot, it is not so bad since Regis Resources has a market capitalization of AU$1.36b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Given net debt is only 0.64 times EBITDA, it is initially surprising to see that Regis Resources's EBIT has low interest coverage of 0.62 times. So while we're not necessarily alarmed we think that its debt is far from trivial. We also note that Regis Resources improved its EBIT from a last year's loss to a positive AU$12m. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Regis Resources's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, Regis Resources actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Regis Resources's interest cover was a real negative on this analysis, although the other factors we considered were considerably better. In particular, we are dazzled with its conversion of EBIT to free cash flow. When we consider all the elements mentioned above, it seems to us that Regis Resources is managing its debt quite well. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. We'd be motivated to research the stock further if we found out that Regis Resources insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

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.

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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.