Is Pennpetro Energy (LON:PPP) A Risky Investment?

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.' 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. As with many other companies Pennpetro Energy Plc (LON:PPP) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Pennpetro Energy

How Much Debt Does Pennpetro Energy Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 Pennpetro Energy had US$4.26m of debt, an increase on US$4.06m, over one year. However, it does have US$94.0k in cash offsetting this, leading to net debt of about US$4.16m.

How Strong Is Pennpetro Energy's Balance Sheet?

We can see from the most recent balance sheet that Pennpetro Energy had liabilities of US$1.16m falling due within a year, and liabilities of US$4.26m due beyond that. On the other hand, it had cash of US$94.0k and US$308.0k worth of receivables due within a year. So its liabilities total US$5.01m more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Pennpetro Energy is worth US$10.8m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Pennpetro Energy will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Given its lack of meaningful operating revenue, Pennpetro Energy shareholders no doubt hope it can fund itself until it can sell some combustibles.

Caveat Emptor

While Pennpetro Energy's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost US$303k at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. For example, we would not want to see a repeat of last year's loss of US$1.0m. In the meantime, we consider the stock very risky. 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. We've identified 3 warning signs with Pennpetro Energy (at least 2 which are potentially serious) , and understanding them should be part of your investment process.

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.

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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.