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.' 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. We note that Gulf Keystone Petroleum Limited (LON:GKP) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Gulf Keystone Petroleum Carry?
As you can see below, Gulf Keystone Petroleum had US$98.6m of debt, at December 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$147.8m in cash, leading to a US$49.2m net cash position.
How Strong Is Gulf Keystone Petroleum's Balance Sheet?
The latest balance sheet data shows that Gulf Keystone Petroleum had liabilities of US$69.1m due within a year, and liabilities of US$135.4m falling due after that. On the other hand, it had cash of US$147.8m and US$37.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$19.7m.
Of course, Gulf Keystone Petroleum has a market capitalization of US$521.2m, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Gulf Keystone Petroleum also has more cash than debt, so we're pretty confident it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Gulf Keystone Petroleum'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.
In the last year Gulf Keystone Petroleum had a loss before interest and tax, and actually shrunk its revenue by 47%, to US$108m. That makes us nervous, to say the least.
So How Risky Is Gulf Keystone Petroleum?
Statistically speaking companies that lose money are riskier than those that make money. And we do note that Gulf Keystone Petroleum had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of US$22m and booked a US$47m accounting loss. Given it only has net cash of US$49.2m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. When I consider a company to be a bit risky, I think it is responsible to check out whether insiders have been reporting any share sales. Luckily, you can click here ito see our graphic depicting Gulf Keystone Petroleum insider transactions.
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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Gulf Keystone Petroleum
Gulf Keystone Petroleum Limited engages in the exploration, evaluation, and production of oil and gas properties in the Kurdistan Region of Iraq and the United Kingdom.
Outstanding track record with flawless balance sheet and pays a dividend.