Is Northern Graphite (CVE:NGC) Using Debt Sensibly?

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.' 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. Importantly, Northern Graphite Corporation (CVE:NGC) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Northern Graphite

What Is Northern Graphite's Debt?

The image below, which you can click on for greater detail, shows that at December 2022 Northern Graphite had debt of CA$15.1m, up from none in one year. On the flip side, it has CA$5.67m in cash leading to net debt of about CA$9.42m.

How Healthy Is Northern Graphite's Balance Sheet?

The latest balance sheet data shows that Northern Graphite had liabilities of CA$10.3m due within a year, and liabilities of CA$55.3m falling due after that. Offsetting these obligations, it had cash of CA$5.67m as well as receivables valued at CA$4.10m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$55.8m.

When you consider that this deficiency exceeds the company's CA$50.7m market capitalization, you might well be inclined to review the balance sheet intently. 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. 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 Northern Graphite can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Northern Graphite managed to produce its first revenue as a listed company, but given the lack of profit, shareholders will no doubt be hoping to see some strong increases.

Caveat Emptor

Importantly, Northern Graphite had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping CA$5.2m. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it burned through CA$17m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. 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. Case in point: We've spotted 4 warning signs for Northern Graphite you should be aware of, and 2 of them make us uncomfortable.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.