Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Western Energy Services Corp. (TSE:WRG) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Western Energy Services's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of June 2021 Western Energy Services had CA$221.6m of debt, an increase on CA$208.5m, over one year. However, because it has a cash reserve of CA$5.59m, its net debt is less, at about CA$216.0m.
How Strong Is Western Energy Services' Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Western Energy Services had liabilities of CA$28.1m due within 12 months and liabilities of CA$231.4m due beyond that. Offsetting these obligations, it had cash of CA$5.59m as well as receivables valued at CA$17.3m due within 12 months. So its liabilities total CA$236.6m more than the combination of its cash and short-term receivables.
This deficit casts a shadow over the CA$23.7m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Western Energy Services would probably need a major re-capitalization if its creditors were to demand repayment. 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 Western 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, Western Energy Services made a loss at the EBIT level, and saw its revenue drop to CA$98m, which is a fall of 37%. To be frank that doesn't bode well.
While Western Energy Services's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping CA$28m. Reflecting on this and the significant total liabilities, it's hard to know what to say about the stock because of our intense dis-affinity for it. Like every long-shot we're sure it has a glossy presentation outlining its blue-sky potential. But the reality is that it is low on liquid assets relative to liabilities, and it lost CA$37m in the last year. So we're not very excited about owning this stock. Its too risky for us. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Western Energy Services has 2 warning signs we think you should be aware of.
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
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