Is Yangarra Resources (TSE:YGR) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Yangarra Resources Ltd. (TSE:YGR) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Yangarra Resources

How Much Debt Does Yangarra Resources Carry?

The image below, which you can click on for greater detail, shows that Yangarra Resources had debt of CA$164.6m at the end of June 2022, a reduction from CA$200.9m over a year. Net debt is about the same, since the it doesn't have much cash.

A Look At Yangarra Resources' Liabilities

The latest balance sheet data shows that Yangarra Resources had liabilities of CA$38.1m due within a year, and liabilities of CA$267.0m falling due after that. Offsetting these obligations, it had cash of CA$191.0k as well as receivables valued at CA$37.1m due within 12 months. So its liabilities total CA$267.7m more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of CA$232.2m, we think shareholders really should watch Yangarra Resources's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Yangarra Resources's net debt is only 1.1 times its EBITDA. And its EBIT easily covers its interest expense, being 11.1 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Even more impressive was the fact that Yangarra Resources grew its EBIT by 209% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Yangarra Resources 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. In the last three years, Yangarra Resources created free cash flow amounting to 8.5% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Our View

While Yangarra Resources's level of total liabilities has us nervous. For example, its EBIT growth rate and interest cover give us some confidence in its ability to manage its debt. Looking at all the angles mentioned above, it does seem to us that Yangarra Resources is a somewhat risky investment as a result of its debt. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 1 warning sign for Yangarra Resources that you should be aware of before investing here.

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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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.