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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.' 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. Importantly, First Majestic Silver Corp. (TSE:FR) does carry debt. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is First Majestic Silver's Net Debt?
The image below, which you can click on for greater detail, shows that First Majestic Silver had debt of US$148.6m at the end of September 2020, a reduction from US$163.3m over a year. However, it does have US$266.1m in cash offsetting this, leading to net cash of US$117.5m.
How Strong Is First Majestic Silver's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that First Majestic Silver had liabilities of US$77.5m due within 12 months and liabilities of US$305.6m due beyond that. On the other hand, it had cash of US$266.1m and US$44.1m worth of receivables due within a year. So it has liabilities totalling US$72.9m more than its cash and near-term receivables, combined.
Since publicly traded First Majestic Silver shares are worth a total of US$2.43b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, First Majestic Silver also has more cash than debt, so we're pretty confident it can manage its debt safely.
We also note that First Majestic Silver improved its EBIT from a last year's loss to a positive US$8.7m. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if First Majestic Silver can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While First Majestic Silver 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. During the last year, First Majestic Silver burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
We could understand if investors are concerned about First Majestic Silver's liabilities, but we can be reassured by the fact it has has net cash of US$117.5m. So although we see some areas for improvement, we're not too worried about First Majestic Silver's balance sheet. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that First Majestic Silver is showing 2 warning signs in our investment analysis , you should know about...
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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. 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.
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