We Think Grange Resources (ASX:GRR) Can Manage Its Debt With Ease
Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Grange Resources Limited (ASX:GRR) makes use of debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for Grange Resources
What Is Grange Resources's Debt?
You can click the graphic below for the historical numbers, but it shows that Grange Resources had AU$14.0m of debt in December 2020, down from AU$16.8m, one year before. But on the other hand it also has AU$202.9m in cash, leading to a AU$188.9m net cash position.
How Strong Is Grange Resources' Balance Sheet?
We can see from the most recent balance sheet that Grange Resources had liabilities of AU$83.5m falling due within a year, and liabilities of AU$78.2m due beyond that. Offsetting these obligations, it had cash of AU$202.9m as well as receivables valued at AU$93.0m due within 12 months. So it can boast AU$134.3m more liquid assets than total liabilities.
This excess liquidity suggests that Grange Resources is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Grange Resources boasts net cash, so it's fair to say it does not have a heavy debt load!
Better yet, Grange Resources grew its EBIT by 198% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is Grange Resources'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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Grange Resources 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. Looking at the most recent three years, Grange Resources recorded free cash flow of 45% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.
Summing up
While it is always sensible to investigate a company's debt, in this case Grange Resources has AU$188.9m in net cash and a decent-looking balance sheet. And we liked the look of last year's 198% year-on-year EBIT growth. So is Grange Resources's debt a risk? It doesn't seem so to us. 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. Case in point: We've spotted 2 warning signs for Grange Resources you should be aware of.
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.
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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