Here's Why Arrow Exploration (CVE:AXL) Has A Meaningful Debt Burden

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We note that Arrow Exploration Corp. (CVE:AXL) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Arrow Exploration

How Much Debt Does Arrow Exploration Carry?

You can click the graphic below for the historical numbers, but it shows that Arrow Exploration had US$3.59m of debt in June 2022, down from US$6.17m, one year before. But on the other hand it also has US$7.70m in cash, leading to a US$4.11m net cash position.

A Look At Arrow Exploration's Liabilities

The latest balance sheet data shows that Arrow Exploration had liabilities of US$6.60m due within a year, and liabilities of US$16.4m falling due after that. On the other hand, it had cash of US$7.70m and US$3.22m worth of receivables due within a year. So it has liabilities totalling US$12.0m more than its cash and near-term receivables, combined.

Arrow Exploration has a market capitalization of US$50.1m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, Arrow Exploration boasts net cash, so it's fair to say it does not have a heavy debt load!

Although Arrow Exploration made a loss at the EBIT level, last year, it was also good to see that it generated US$6.0m in EBIT over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Arrow Exploration'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Arrow Exploration has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last year, Arrow Exploration 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

Although Arrow Exploration's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$4.11m. So while Arrow Exploration does not have a great balance sheet, it's certainly not too bad. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Arrow Exploration has 3 warning signs (and 1 which is significant) we think you should know about.

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.