What You Must Know About Precision Drilling Corporation’s (TSE:PD) Financial Strength

Investors are always looking for growth in small-cap stocks like Precision Drilling Corporation (TSE:PD), with a market cap of CA$737m. However, an important fact which most ignore is: how financially healthy is the business? Companies operating in the Energy Services industry, especially ones that are currently loss-making, are more likely to be higher risk. Evaluating financial health as part of your investment thesis is essential. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. However, given that I have not delve into the company-specifics, I recommend you dig deeper yourself into PD here.

How does PD’s operating cash flow stack up against its debt?

PD’s debt level has been constant at around CA$1.7b over the previous year – this includes long-term debt. At this constant level of debt, PD currently has CA$110m remaining in cash and short-term investments , ready to deploy into the business. Additionally, PD has generated cash from operations of CA$223m over the same time period, resulting in an operating cash to total debt ratio of 13%, meaning that PD’s current level of operating cash is not high enough to cover debt. This ratio can also be interpreted as a measure of efficiency for loss making companies since metrics such as return on asset (ROA) requires positive earnings. In PD’s case, it is able to generate 0.13x cash from its debt capital.

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

With current liabilities at CA$261m, the company has been able to meet these commitments with a current assets level of CA$484m, leading to a 1.85x current account ratio. Generally, for Energy Services companies, this is a reasonable ratio as there’s enough of a cash buffer without holding too much capital in low return investments.

TSX:PD Historical Debt December 18th 18
TSX:PD Historical Debt December 18th 18

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

With debt reaching 98% of equity, PD may be thought of as relatively highly levered. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. However, since PD is currently loss-making, sustainability of its current state of operations becomes a concern. Maintaining a high level of debt, while revenues are still below costs, can be dangerous as liquidity tends to dry up in unexpected downturns.

Next Steps:

PD’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. Since there is also no concerns around PD’s liquidity needs, this may be its optimal capital structure for the time being. Keep in mind I haven’t considered other factors such as how PD has been performing in the past. I recommend you continue to research Precision Drilling to get a more holistic view of the small-cap by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for PD’s future growth? Take a look at our free research report of analyst consensus for PD’s outlook.
  2. Valuation: What is PD 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 PD 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.