Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from synonymous with risk.” It’s natural to consider a company’s balance sheet when looking at its riskiness, as debt is often involved when a company fails. Like many other companies First limited resources (SGX:EB5) uses debt. But the more important question is: what risk does this debt create?
Why is debt risky?
Debt helps a business until the business struggles to pay it back, either with new capital or with free cash flow. If things go really bad, lenders can take over the business. Although not too common, we often see companies in debt permanently diluting their shareholders because lenders force them to raise capital at a ridiculous price. Of course, many companies use debt to finance their growth, without any negative consequences. The first step when considering a company’s debt levels is to consider its cash and debt together.
See our latest analysis for First Resources
What is First Resources debt?
You can click on the chart below for historical numbers, but it shows First Resources had $404.1 million in debt in December 2021, up from $439.2 million a year prior. On the other hand, he has $381.5 million in cash, resulting in a net debt of around $22.6 million.
How healthy is First Resources’ balance sheet?
The latest balance sheet data shows that First Resources had liabilities of $263.3 million due within the year, and liabilities of $339.2 million due thereafter. In compensation for these obligations, it had cash of US$381.5 million as well as receivables valued at US$72.6 million and maturing within 12 months. Thus, its liabilities total $148.5 million more than the combination of its cash and short-term receivables.
Of course, First Resources has a market capitalization of US$2.10 billion, so those liabilities are probably manageable. However, we think it’s worth keeping an eye on the strength of its balance sheet, as it can change over time. Either way, First Resources has virtually no net debt, so it’s fair to say it’s not heavily leveraged!
We measure a company’s leverage against its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT ) covers its interest charge (interest coverage). Thus, we consider debt to earnings with and without amortization and depreciation expense.
With debt at a measly 0.069x EBITDA and an EBIT covering interest of 18.4x, it’s clear that First Resources is not a desperate borrower. Indeed, relative to its earnings, its leverage seems light as a feather. Another good sign, First Resources was able to increase its EBIT by 29% in twelve months, thus facilitating the repayment of debt. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine First Resources’ ability to maintain a healthy balance sheet in the future. So if you are focused on the future, you can check out this free report showing analyst earnings forecast.
Finally, a business needs free cash flow to pay off its debts; book profits are not enough. We must therefore clearly examine whether this EBIT generates a corresponding free cash flow. Over the past three years, First Resources has produced strong free cash flow equivalent to 64% of its EBIT, which is what we expected. This free cash flow puts the company in a good position to repay its debt, should it arise.
Our point of view
First Resources’ interest coverage suggests they can manage their debt as easily as Cristiano Ronaldo could score a goal against an Under-14 keeper. And this is only the beginning of good news since its net debt to EBITDA is also very pleasing. Given this range of factors, it seems to us that First Resources is quite conservative with its debt, and the risks appear to be well managed. So we are not worried about using a little leverage on the balance sheet. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks reside on the balance sheet, far from it. Be aware that First Resources displays 1 warning sign in our investment analysis you should know…
Of course, if you’re the type of investor who prefers to buy stocks without the burden of debt, then feel free to check out our exclusive list of cash-efficient growth stocks today.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.
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