Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk. 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 can see that Premier African Minerals Limited (LON:PREM) does use debt in its business. But the real question is whether this debt is making the company risky.
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Premier African Minerals's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Premier African Minerals had US$592.0k of debt in June 2019, down from US$962.0k, one year before. But on the other hand it also has US$1.19m in cash, leading to a US$600.0k net cash position.
A Look At Premier African Minerals's Liabilities
According to the last reported balance sheet, Premier African Minerals had liabilities of US$1.61m due within 12 months, and liabilities of -US$1.5m due beyond 12 months. Offsetting this, it had US$1.19m in cash and US$25.0k in receivables that were due within 12 months. So it actually has US$1.15m more liquid assets than total liabilities.
It's good to see that Premier African Minerals has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, Premier African Minerals boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But it is Premier African Minerals's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
Given its lack of meaningful operating revenue, investors are probably hoping that Premier African Minerals finds some valuable resources, before it runs out of money.
So How Risky Is Premier African Minerals?
Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months Premier African Minerals lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of US$26k and booked a US$15m accounting loss. While this does make the company a bit risky, it's important to remember it has net cash of US$600.0k. That kitty means the company can keep spending for growth for at least two years, at current rates. The good news for shareholders is that Premier African Minerals has dazzling revenue growth, so there's a very good chance it can boost its free cash flow in the years to come. While unprofitable companies can be risky, they can also grow hard and fast in those pre-profit years. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how Premier African Minerals's profit, revenue, and operating cashflow have changed over the last few years.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.