Is Falco Resources (CVE:FPC) Using Debt Sensibly?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Falco Resources Ltd. (CVE:FPC) does use debt in its business. 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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Falco Resources

What Is Falco Resources's Debt?

As you can see below, at the end of September 2022, Falco Resources had CA$31.0m of debt, up from CA$28.6m a year ago. Click the image for more detail. However, it does have CA$10.1m in cash offsetting this, leading to net debt of about CA$20.9m.

How Healthy Is Falco Resources' Balance Sheet?

The latest balance sheet data shows that Falco Resources had liabilities of CA$32.4m due within a year, and liabilities of CA$51.6m falling due after that. On the other hand, it had cash of CA$10.1m and CA$458.0k worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$73.4m.

The deficiency here weighs heavily on the CA$28.5m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Falco Resources would likely require a major re-capitalisation if it had to pay its creditors today. 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 Falco Resources's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Given its lack of meaningful operating revenue, investors are probably hoping that Falco Resources finds some valuable resources, before it runs out of money.

Caveat Emptor

Importantly, Falco Resources had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable CA$3.7m at the EBIT level. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. Of course, it may be able to improve its situation with a bit of luck and good execution. Nevertheless, we would not bet on it given that it vaporized CA$14m in cash over the last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is risky, like walking through a dirty dog park with a mask on. 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 Falco Resources has 3 warning signs (and 2 which are concerning) we think you should know about.

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.