Does Stanmore Resources (ASX:SMR) Have A Healthy Balance Sheet?

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 Stanmore Resources Limited (ASX:SMR) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Stanmore Resources

What Is Stanmore Resources's Debt?

You can click the graphic below for the historical numbers, but it shows that Stanmore Resources had US$315.9m of debt in December 2023, down from US$604.1m, one year before. However, it does have US$446.3m in cash offsetting this, leading to net cash of US$130.4m.

A Look At Stanmore Resources' Liabilities

The latest balance sheet data shows that Stanmore Resources had liabilities of US$988.3m due within a year, and liabilities of US$863.6m falling due after that. Offsetting this, it had US$446.3m in cash and US$283.0m 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$1.81b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. Despite its noteworthy liabilities, Stanmore Resources boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Stanmore Resources's EBIT dived 17%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Stanmore 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Stanmore 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 three years, Stanmore Resources recorded free cash flow worth a fulsome 95% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While Stanmore Resources does have more liabilities than liquid assets, it also has net cash of US$130.4m. And it impressed us with free cash flow of US$541m, being 95% of its EBIT. So we are not troubled with Stanmore Resources's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Stanmore Resources (1 is concerning) 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.