Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Dawson Geophysical Company (NASDAQ:DWSN) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.
How Much Debt Does Dawson Geophysical Carry?
You can click the graphic below for the historical numbers, but it shows that Dawson Geophysical had US$5.66m of debt in June 2019, down from US$6.70m, one year before. However, it does have US$44.9m in cash offsetting this, leading to net cash of US$39.2m.
How Healthy Is Dawson Geophysical's Balance Sheet?
According to the last reported balance sheet, Dawson Geophysical had liabilities of US$25.5m due within 12 months, and liabilities of US$10.3m due beyond 12 months. Offsetting this, it had US$44.9m in cash and US$16.7m in receivables that were due within 12 months. So it can boast US$25.7m more liquid assets than total liabilities.
This surplus liquidity suggests that Dawson Geophysical's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, it seems its balance sheet is as strong as a black-belt karate master. Simply put, the fact that Dawson Geophysical has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Dawson Geophysical's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
In the last year Dawson Geophysical actually shrunk its revenue by 15%, to US$143m. We would much prefer see growth.
So How Risky Is Dawson Geophysical?
Statistically speaking companies that lose money are riskier than those that make money. And we do note that Dawson Geophysical had negative earnings before interest and tax (EBIT), over the last year. Indeed, in that time it burnt through US$548k of cash and made a loss of US$28m. While this does make the company a bit risky, it's important to remember it has net cash of US$45m. That means it could keep spending at its current rate for more than five years. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. When I consider a company to be a bit risky, I think it is responsible to check out whether insiders have been reporting any share sales. Luckily, you can click here ito see our graphic depicting Dawson Geophysical insider transactions.
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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