Advantage Oil & Gas Ltd (TSE:AAV): Time For A Financial Health Check

While small-cap stocks, such as Advantage Oil & Gas Ltd (TSE:AAV) with its market cap of CA$741.1m, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Companies operating in the Oil and Gas industry, even ones that are profitable, tend to be high risk. So, understanding the company’s financial health becomes essential. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. Though, this commentary is still very high-level, so I’d encourage you to dig deeper yourself into AAV here.

How much cash does AAV generate through its operations?

AAV’s debt levels surged from CA$134.1m to CA$250.2m over the last 12 months – this includes both the current and long-term debt. With this increase in debt, AAV’s cash and short-term investments stands at CA$3.8m , ready to deploy into the business. Additionally, AAV has generated CA$171.1m in operating cash flow over the same time period, resulting in an operating cash to total debt ratio of 68.4%, indicating that AAV’s operating cash is sufficient to cover its debt. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In AAV’s case, it is able to generate 0.68x cash from its debt capital.

Can AAV meet its short-term obligations with the cash in hand?

Looking at AAV’s most recent CA$28.1m liabilities, the company has been able to meet these obligations given the level of current assets of CA$43.6m, with a current ratio of 1.55x. Usually, for Oil and Gas companies, this is a suitable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.

TSX:AAV Historical Debt August 28th 18
TSX:AAV Historical Debt August 28th 18

Does AAV face the risk of succumbing to its debt-load?

AAV’s level of debt is appropriate relative to its total equity, at 19.1%. AAV is not taking on too much debt commitment, which may be constraining for future growth. We can test if AAV’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For AAV, the ratio of 5.92x suggests that interest is appropriately covered, which means that debtors may be willing to loan the company more money, giving AAV ample headroom to grow its debt facilities.

Next Steps:

AAV’s high cash coverage and low debt levels indicate its ability to utilise its borrowings efficiently in order to generate ample cash flow. Furthermore, the company will be able to pay all of its upcoming liabilities from its current short-term assets. Keep in mind I haven’t considered other factors such as how AAV has been performing in the past. You should continue to research Advantage Oil & Gas to get a better picture of the stock by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for AAV’s future growth? Take a look at our free research report of analyst consensus for AAV’s outlook.
  2. Valuation: What is AAV worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether AAV is currently mispriced by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.