Is AKITA Drilling (TSE:AKT.A) Using Debt In A Risky Way?
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. We note that AKITA Drilling Ltd. (TSE:AKT.A) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
View our latest analysis for AKITA Drilling
What Is AKITA Drilling's Debt?
As you can see below, at the end of June 2019, AKITA Drilling had CA$84.3m of debt, up from none a year ago. Click the image for more detail. However, it does have CA$11.4m in cash offsetting this, leading to net debt of about CA$72.8m.
A Look At AKITA Drilling's Liabilities
The latest balance sheet data shows that AKITA Drilling had liabilities of CA$31.8m due within a year, and liabilities of CA$100.9m falling due after that. On the other hand, it had cash of CA$11.4m and CA$31.3m worth of receivables due within a year. So its liabilities total CA$90.0m more than the combination of its cash and short-term receivables.
Given this deficit is actually higher than the company's market capitalization of CA$65.4m, we think shareholders really should watch AKITA Drilling's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. 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 AKITA Drilling can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Over 12 months, AKITA Drilling reported revenue of CA$165m, which is a gain of 111%. So there's no doubt that shareholders are cheering for growth
Caveat Emptor
Despite the top line growth, AKITA Drilling still had negative earnings before interest and tax (EBIT), over the last year. Indeed, it lost a very considerable CA$13m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it burned through CA$22m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. 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 AKITA Drilling insider transactions.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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.
