PHX Energy Services (TSE:PHX) Takes On Some Risk With Its Use Of Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies PHX Energy Services Corp. (TSE:PHX) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for PHX Energy Services

What Is PHX Energy Services's Debt?

The image below, which you can click on for greater detail, shows that at March 2022 PHX Energy Services had debt of CA$3.75m, up from none in one year. However, it does have CA$11.3m in cash offsetting this, leading to net cash of CA$7.53m.

A Look At PHX Energy Services' Liabilities

Zooming in on the latest balance sheet data, we can see that PHX Energy Services had liabilities of CA$92.3m due within 12 months and liabilities of CA$46.9m due beyond that. Offsetting these obligations, it had cash of CA$11.3m as well as receivables valued at CA$90.5m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$37.4m.

Since publicly traded PHX Energy Services shares are worth a total of CA$332.0m, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, PHX Energy Services boasts net cash, so it's fair to say it does not have a heavy debt load!

We also note that PHX Energy Services improved its EBIT from a last year's loss to a positive CA$2.8m. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine PHX Energy Services's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. PHX Energy Services may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last year, PHX Energy Services saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing up

While PHX Energy Services does have more liabilities than liquid assets, it also has net cash of CA$7.53m. So while PHX Energy Services does not have a great balance sheet, it's certainly not too bad. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 3 warning signs we've spotted with PHX Energy Services .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.