The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. Importantly, Talos Energy Inc. (NYSE:TALO) does carry debt. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Talos Energy's Net Debt?
The chart below, which you can click on for greater detail, shows that Talos Energy had US$984.8m in debt in September 2021; about the same as the year before. On the flip side, it has US$59.4m in cash leading to net debt of about US$925.4m.
How Healthy Is Talos Energy's Balance Sheet?
The latest balance sheet data shows that Talos Energy had liabilities of US$635.8m due within a year, and liabilities of US$1.48b falling due after that. On the other hand, it had cash of US$59.4m and US$146.6m worth of receivables due within a year. So it has liabilities totalling US$1.91b more than its cash and near-term receivables, combined.
This deficit casts a shadow over the US$800.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Talos Energy would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Talos Energy's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
In the last year Talos Energy wasn't profitable at an EBIT level, but managed to grow its revenue by 64%, to US$1.0b. With any luck the company will be able to grow its way to profitability.
Despite the top line growth, Talos Energy still had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping US$233m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. It's fair to say the loss of US$695m didn't encourage us either; we'd like to see a profit. 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. We've identified 1 warning sign with Talos Energy , and understanding them should be part of your investment process.
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.
What are the risks and opportunities for Talos Energy?
Trading at 77.1% below our estimate of its fair value
Earnings are forecast to grow 16.3% per year
Became profitable this year
Has a high level of debt
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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.
Talos Energy Inc., an independent exploration and production company, focuses on the exploration and production of oil and natural gas properties in the United States Gulf of Mexico and offshore Mexico.
Undervalued with proven track record.