Does AP Oil International (SGX:5AU) Have A Healthy Balance Sheet?

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.' 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. As with many other companies AP Oil International Limited (SGX:5AU) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, 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.

See our latest analysis for AP Oil International

What Is AP Oil International's Debt?

The chart below, which you can click on for greater detail, shows that AP Oil International had S$6.20m in debt in December 2020; about the same as the year before. But on the other hand it also has S$35.7m in cash, leading to a S$29.5m net cash position.

A Look At AP Oil International's Liabilities

Zooming in on the latest balance sheet data, we can see that AP Oil International had liabilities of S$8.88m due within 12 months and liabilities of S$11.2m due beyond that. Offsetting this, it had S$35.7m in cash and S$4.98m in receivables that were due within 12 months. So it can boast S$20.6m more liquid assets than total liabilities.

This surplus liquidity suggests that AP Oil International's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Succinctly put, AP Oil International boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for AP Oil International if management cannot prevent a repeat of the 54% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But it is AP Oil International's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. AP Oil International 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 last three years, AP Oil International saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that AP Oil International has net cash of S$29.5m, as well as more liquid assets than liabilities. So we are not troubled with AP Oil International's debt use. 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. To that end, you should learn about the 3 warning signs we've spotted with AP Oil International (including 1 which is significant) .

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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