We Think Minera Valparaiso (SNSE:MINERA) Can Stay On Top Of Its Debt

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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, Minera Valparaiso S.A. (SNSE:MINERA) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Minera Valparaiso

What Is Minera Valparaiso's Debt?

As you can see below, at the end of September 2021, Minera Valparaiso had US$1.87b of debt, up from US$1.67b a year ago. Click the image for more detail. However, it does have US$1.88b in cash offsetting this, leading to net cash of US$7.14m.

How Strong Is Minera Valparaiso's Balance Sheet?

According to the last reported balance sheet, Minera Valparaiso had liabilities of US$1.44b due within 12 months, and liabilities of US$3.04b due beyond 12 months. Offsetting these obligations, it had cash of US$1.88b as well as receivables valued at US$749.7m due within 12 months. So its liabilities total US$1.85b more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of US$1.67b, we think shareholders really should watch Minera Valparaiso's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. Minera Valparaiso boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total.

Better yet, Minera Valparaiso grew its EBIT by 167% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is Minera Valparaiso's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Minera Valparaiso may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Minera Valparaiso recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

Although Minera Valparaiso'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$7.14m. And we liked the look of last year's 167% year-on-year EBIT growth. So we don't have any problem with Minera Valparaiso's use of debt. 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, we've discovered 2 warning signs for Minera Valparaiso that you should be aware of before investing here.

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.

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.

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