Is Genel Energy (LON:GENL) Using Too Much 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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Genel Energy plc (LON:GENL) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Genel Energy

What Is Genel Energy's Debt?

As you can see below, Genel Energy had US$295.1m of debt, at June 2020, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has US$355.3m in cash, leading to a US$60.2m net cash position.

How Strong Is Genel Energy's Balance Sheet?

We can see from the most recent balance sheet that Genel Energy had liabilities of US$69.9m falling due within a year, and liabilities of US$488.6m due beyond that. Offsetting this, it had US$355.3m in cash and US$98.3m in receivables that were due within 12 months. So its liabilities total US$104.9m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Genel Energy has a market capitalization of US$509.6m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Genel Energy boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Genel Energy 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.

Over 12 months, Genel Energy made a loss at the EBIT level, and saw its revenue drop to US$271m, which is a fall of 30%. That makes us nervous, to say the least.

So How Risky Is Genel Energy?

While Genel Energy lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow US$73m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. With revenue growth uninspiring, we'd really need to see some positive EBIT before mustering much enthusiasm for this business. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with Genel Energy .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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This article by Simply Wall St is general in nature. 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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