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Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that ‘Volatility is far from synonymous with risk.’ It’s only natural to consider a company’s balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Bengal Energy Ltd. (TSE:BNG) does use debt in its business. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. 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.
See our latest analysis for Bengal Energy
How Much Debt Does Bengal Energy Carry?
As you can see below, Bengal Energy had CA$16.5m of debt, at March 2019, which is about the same the year before. You can click the chart for greater detail. However, it also had CA$2.89m in cash, and so its net debt is CA$13.6m.
How Strong Is Bengal Energy’s Balance Sheet?
We can see from the most recent balance sheet that Bengal Energy had liabilities of CA$19.1m falling due within a year, and liabilities of CA$1.98m due beyond that. Offsetting this, it had CA$2.89m in cash and CA$2.97m in receivables that were due within 12 months. So it has liabilities totalling CA$15.2m more than its cash and near-term receivables, combined.
Given this deficit is actually higher than the company’s market capitalization of CA$10.7m, we think shareholders really should watch Bengal Energy’s debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. Because it carries more debt than cash, we think it’s worth watching Bengal Energy’s balance sheet over time. The balance sheet is clearly the area to focus on when you are analysing debt. But you can’t view debt in total isolation; since Bengal Energy will need earnings to service that debt. So if you’re keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
In the last year Bengal Energy managed to grow its revenue by 5.7%, to CA$11m. We usually like to see faster growth from unprofitable companies, but each to their own.
Caveat Emptor
Importantly, Bengal Energy had negative earnings before interest and tax (EBIT), over the last year. Indeed, it lost CA$390k at the EBIT level. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it burned through CA$1.7m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. When I consider a company to be a bit risky, I think it is responsible to check out whether insiders have been reporting any share sales. Luckily, you can click here ito see our graphic depicting Bengal Energy insider transactions.
If, after all that, you’re more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.