Arch Resources (NYSE:ARCH) Has A Pretty Healthy Balance Sheet

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. As with many other companies Arch Resources, Inc. (NYSE:ARCH) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Arch Resources

How Much Debt Does Arch Resources Carry?

You can click the graphic below for the historical numbers, but it shows that Arch Resources had US$183.0m of debt in June 2022, down from US$538.5m, one year before. However, it does have US$281.9m in cash offsetting this, leading to net cash of US$98.9m.

How Strong Is Arch Resources' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Arch Resources had liabilities of US$412.2m due within 12 months and liabilities of US$712.8m due beyond that. Offsetting these obligations, it had cash of US$281.9m as well as receivables valued at US$470.7m due within 12 months. So its liabilities total US$372.3m more than the combination of its cash and short-term receivables.

Given Arch Resources has a market capitalization of US$2.45b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, Arch Resources boasts net cash, so it's fair to say it does not have a heavy debt load!

It was also good to see that despite losing money on the EBIT line last year, Arch Resources turned things around in the last 12 months, delivering and EBIT of US$1.1b. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Arch Resources can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Arch Resources 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 most recent year, Arch Resources recorded free cash flow worth 58% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

Although Arch Resources's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$98.9m. So we don't have any problem with Arch Resources's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 4 warning signs for Arch Resources (2 don't sit too well with us!) that you should be aware of before investing here.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.