World Class Extractions (CSE:PUMP) Is Carrying A Fair Bit Of Debt

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 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. We note that World Class Extractions Inc. (CSE:PUMP) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for World Class Extractions

How Much Debt Does World Class Extractions Carry?

As you can see below, at the end of July 2021, World Class Extractions had CA$2.65m of debt, up from CA$2.26m a year ago. Click the image for more detail. However, it does have CA$1.92m in cash offsetting this, leading to net debt of about CA$733.0k.

How Healthy Is World Class Extractions' Balance Sheet?

The latest balance sheet data shows that World Class Extractions had liabilities of CA$4.83m due within a year, and liabilities of CA$704.7k falling due after that. Offsetting these obligations, it had cash of CA$1.92m as well as receivables valued at CA$1.72m due within 12 months. So its liabilities total CA$1.89m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since World Class Extractions has a market capitalization of CA$6.25m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since World Class Extractions will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year World Class Extractions wasn't profitable at an EBIT level, but managed to grow its revenue by 241%, to CA$10m. When it comes to revenue growth, that's like nailing the game winning 3-pointer!

Caveat Emptor

Even though World Class Extractions managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Its EBIT loss was a whopping CA$3.4m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through CA$1.9m of cash over the last year. So suffice it to say we consider the stock very risky. 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. For example World Class Extractions has 3 warning signs (and 2 which are concerning) 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.