Is STEP Energy Services (TSE:STEP) A Risky Investment?

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.' 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 STEP Energy Services Ltd. (TSE:STEP) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for STEP Energy Services

How Much Debt Does STEP Energy Services Carry?

The chart below, which you can click on for greater detail, shows that STEP Energy Services had CA$198.0m in debt in June 2021; about the same as the year before. Net debt is about the same, since the it doesn't have much cash.

A Look At STEP Energy Services' Liabilities

According to the last reported balance sheet, STEP Energy Services had liabilities of CA$249.9m due within 12 months, and liabilities of CA$12.2m due beyond 12 months. Offsetting these obligations, it had cash of CA$2.97m as well as receivables valued at CA$56.7m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$202.4m.

This deficit casts a shadow over the CA$110.3m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, STEP Energy Services would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if STEP Energy Services can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, STEP Energy Services made a loss at the EBIT level, and saw its revenue drop to CA$378m, which is a fall of 30%. To be frank that doesn't bode well.

Caveat Emptor

Not only did STEP Energy Services's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable CA$58m 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. Not least because it had negative free cash flow of CA$7.2m over the last twelve months. That means it's on the risky side of things. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with STEP Energy Services .

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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