Is Aranjin Resources (CVE:ARJN) Using Debt Sensibly?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Aranjin Resources Ltd. (CVE:ARJN) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, 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.

Our analysis indicates that ARJN is potentially undervalued!

How Much Debt Does Aranjin Resources Carry?

As you can see below, Aranjin Resources had CA$2.46m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of CA$259.6k, its net debt is less, at about CA$2.20m.

How Strong Is Aranjin Resources' Balance Sheet?

The latest balance sheet data shows that Aranjin Resources had liabilities of CA$2.96m due within a year, and liabilities of CA$767.8k falling due after that. Offsetting this, it had CA$259.6k in cash and CA$12.1k in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$3.46m.

This is a mountain of leverage relative to its market capitalization of CA$4.04m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Aranjin Resources 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.

Since Aranjin Resources has no significant operating revenue, shareholders probably hope it will develop a valuable new mine before too long.

Caveat Emptor

Over the last twelve months Aranjin Resources produced an earnings before interest and tax (EBIT) loss. Indeed, it lost a very considerable CA$626k at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. We would feel better if it turned its trailing twelve month loss of CA$1.5m into a profit. So in short it's a really risky stock. 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 instance, we've identified 3 warning signs for Aranjin Resources that you should be aware of.

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.

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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.