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 Sandfire Resources Limited (ASX:SFR) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Sandfire Resources's Debt?
You can click the graphic below for the historical numbers, but it shows that Sandfire Resources had US$570.3m of debt in June 2023, down from US$782.3m, one year before. However, because it has a cash reserve of US$141.9m, its net debt is less, at about US$428.3m.
How Healthy Is Sandfire Resources' Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Sandfire Resources had liabilities of US$282.4m due within 12 months and liabilities of US$1.06b due beyond that. Offsetting this, it had US$141.9m in cash and US$78.4m in receivables that were due within 12 months. So its liabilities total US$1.12b more than the combination of its cash and short-term receivables.
This is a mountain of leverage relative to its market capitalization of US$1.82b. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Sandfire Resources can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Over 12 months, Sandfire Resources made a loss at the EBIT level, and saw its revenue drop to US$810m, which is a fall of 13%. We would much prefer see growth.
Not only did Sandfire Resources's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at US$12m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any 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 US$210m in negative free cash flow over the last twelve months. So in short it's a really risky stock. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Sandfire Resources that you should be aware of.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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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.