These 4 Measures Indicate That Orca Exploration Group (CVE:ORC.B) Is Using Debt Safely
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 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. We note that Orca Exploration Group Inc. (CVE:ORC.B) does have debt on its balance sheet. 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 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. 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.
See our latest analysis for Orca Exploration Group
What Is Orca Exploration Group's Debt?
As you can see below, Orca Exploration Group had US$58.7m of debt, at June 2019, which is about the same the year before. You can click the chart for greater detail. But on the other hand it also has US$143.7m in cash, leading to a US$85.0m net cash position.
A Look At Orca Exploration Group's Liabilities
Zooming in on the latest balance sheet data, we can see that Orca Exploration Group had liabilities of US$62.4m due within 12 months and liabilities of US$108.5m due beyond that. Offsetting these obligations, it had cash of US$143.7m as well as receivables valued at US$17.1m due within 12 months. So it has liabilities totalling US$10.1m more than its cash and near-term receivables, combined.
Since publicly traded Orca Exploration Group shares are worth a total of US$168.5m, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Orca Exploration Group also has more cash than debt, so we're pretty confident it can manage its debt safely.
Notably, Orca Exploration Group's EBIT launched higher than Elon Musk, gaining a whopping 204% on last year. 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 Orca Exploration Group 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.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Orca Exploration Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Orca Exploration Group actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
Summing up
While it is always sensible to look at a company's total liabilities, it is very reassuring that Orca Exploration Group has US$85.0m in net cash. And it impressed us with free cash flow of US$30m, being 132% of its EBIT. So is Orca Exploration Group's debt a risk? It doesn't seem so to us. We'd be very excited to see if Orca Exploration Group insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.
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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.
