U.S. Markets close in 4 hrs 13 mins

Is Approach Resources Inc’s (NASDAQ:AREX) Balance Sheet Strong Enough To Weather A Storm?

Petra Goodwin

While small-cap stocks, such as Approach Resources Inc (NASDAQ:AREX) with its market cap of US$256.70M, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Oil and Gas companies, in particular ones that run negative earnings, are inclined towards being higher risk. So, understanding the company’s financial health becomes vital. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. However, this commentary is still very high-level, so I’d encourage you to dig deeper yourself into AREX here.

How does AREX’s operating cash flow stack up against its debt?

AREX has shrunken its total debt levels in the last twelve months, from US$498.35M to US$373.46M – this includes both the current and long-term debt. With this debt payback, AREX currently has US$21.00K remaining in cash and short-term investments for investing into the business. Additionally, AREX has generated cash from operations of US$37.45M in the last twelve months, resulting in an operating cash to total debt ratio of 10.03%, meaning that AREX’s current level of operating cash is not high enough to cover debt. This ratio can also be a sign of operational efficiency for loss making businesses since metrics such as return on asset (ROA) requires a positive net income. In AREX’s case, it is able to generate 0.1x cash from its debt capital.

Does AREX’s liquid assets cover its short-term commitments?

With current liabilities at US$25.07M, it appears that the company is not able to meet these obligations given the level of current assets of US$16.70M, with a current ratio of 0.67x below the prudent level of 3x.

NasdaqGS:AREX Historical Debt Apr 19th 18

Is AREX’s debt level acceptable?

With a debt-to-equity ratio of 61.48%, AREX can be considered as an above-average leveraged company. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. Though, since AREX is currently unprofitable, sustainability of its current state of operations becomes a concern. Running high debt, while not yet making money, can be risky in unexpected downturns as liquidity may dry up, making it hard to operate.

Next Steps:

AREX’s debt and cash flow levels indicate room for improvement. Its cash flow coverage of less than a quarter of debt means that operating efficiency could be an issue. In addition to this, its lack of liquidity raises questions over current asset management practices for the small-cap. Keep in mind I haven’t considered other factors such as how AREX has been performing in the past. You should continue to research Approach Resources to get a better picture of the stock by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for AREX’s future growth? Take a look at our free research report of analyst consensus for AREX’s outlook.
  2. Historical Performance: What has AREX’s returns been like over the past? Go into more detail in the past track record analysis and take a look at the free visual representations of our analysis for more clarity.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned.