Is Rompetrol Rafinare (BVB:RRC) Weighed On By Its Debt Load?

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Rompetrol Rafinare S.A. (BVB:RRC) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Rompetrol Rafinare

What Is Rompetrol Rafinare's Net Debt?

As you can see below, at the end of September 2020, Rompetrol Rafinare had US$242.7m of debt, up from US$214.9m a year ago. Click the image for more detail. However, it does have US$50.4m in cash offsetting this, leading to net debt of about US$192.4m.

A Look At Rompetrol Rafinare's Liabilities

We can see from the most recent balance sheet that Rompetrol Rafinare had liabilities of US$1.25b falling due within a year, and liabilities of US$359.4m due beyond that. On the other hand, it had cash of US$50.4m and US$468.9m worth of receivables due within a year. So it has liabilities totalling US$1.09b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the US$437.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Rompetrol Rafinare would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Rompetrol Rafinare 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.

In the last year Rompetrol Rafinare had a loss before interest and tax, and actually shrunk its revenue by 33%, to US$2.6b. To be frank that doesn't bode well.

Caveat Emptor

While Rompetrol Rafinare's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping US$107m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. For example, we would not want to see a repeat of last year's loss of US$178m. In the meantime, 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. Consider for instance, the ever-present spectre of investment risk. We've identified 1 warning sign with Rompetrol Rafinare , and understanding them should be part of your investment process.

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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