Is AKITA Drilling (TSE:AKT.A) Using Too Much Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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, AKITA Drilling Ltd. (TSE:AKT.A) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for AKITA Drilling

What Is AKITA Drilling's Debt?

You can click the graphic below for the historical numbers, but it shows that AKITA Drilling had CA$74.5m of debt in June 2021, down from CA$79.7m, one year before. On the flip side, it has CA$7.27m in cash leading to net debt of about CA$67.2m.

A Look At AKITA Drilling's Liabilities

We can see from the most recent balance sheet that AKITA Drilling had liabilities of CA$14.2m falling due within a year, and liabilities of CA$83.8m due beyond that. On the other hand, it had cash of CA$7.27m and CA$11.7m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$79.1m.

This deficit casts a shadow over the CA$48.5m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, AKITA Drilling would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if AKITA Drilling 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.

In the last year AKITA Drilling had a loss before interest and tax, and actually shrunk its revenue by 48%, to CA$86m. That makes us nervous, to say the least.

Caveat Emptor

While AKITA Drilling's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable CA$21m at the EBIT level. Considering that alongside the liabilities mentioned above make us nervous about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. For example, we would not want to see a repeat of last year's loss of CA$46m. And until that time we think this is a risky stock. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 3 warning signs we've spotted with AKITA Drilling .

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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