Is High Arctic Energy Services (TSE:HWO) Using Debt Sensibly?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, High Arctic Energy Services Inc (TSE:HWO) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for High Arctic Energy Services

What Is High Arctic Energy Services's Debt?

As you can see below, at the end of September 2020, High Arctic Energy Services had CA$10.0m of debt, up from none a year ago. Click the image for more detail. But it also has CA$33.2m in cash to offset that, meaning it has CA$23.2m net cash.

How Strong Is High Arctic Energy Services' Balance Sheet?

According to the last reported balance sheet, High Arctic Energy Services had liabilities of CA$22.2m due within 12 months, and liabilities of CA$17.7m due beyond 12 months. Offsetting this, it had CA$33.2m in cash and CA$18.1m in receivables that were due within 12 months. So it actually has CA$11.4m more liquid assets than total liabilities.

This surplus suggests that High Arctic Energy Services is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that High Arctic Energy Services has more cash than debt is arguably a good indication that it can manage its debt safely. 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 High Arctic Energy Services 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, High Arctic Energy Services made a loss at the EBIT level, and saw its revenue drop to CA$117m, which is a fall of 39%. That makes us nervous, to say the least.

So How Risky Is High Arctic Energy Services?

Although High Arctic Energy Services had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of CA$10m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. We'll feel more comfortable with the stock once EBIT is positive, given the lacklustre revenue growth. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that High Arctic Energy Services is showing 3 warning signs in our investment analysis , and 1 of those shouldn't be ignored...

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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