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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Nippon Dragon Resources Inc. (CVE:NIP) does carry debt. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 step when considering a company's debt levels is to consider its cash and debt together.
What Is Nippon Dragon Resources's Net Debt?
As you can see below, Nippon Dragon Resources had CA$2.00m of debt, at March 2019, which is about the same the year before. You can click the chart for greater detail. However, it also had CA$145.2k in cash, and so its net debt is CA$1.85m.
How Healthy Is Nippon Dragon Resources's Balance Sheet?
According to the balance sheet data, Nippon Dragon Resources had liabilities of CA$6.07m due within 12 months, but no longer term liabilities. Offsetting these obligations, it had cash of CA$145.2k as well as receivables valued at CA$16.7k due within 12 months. So its liabilities total CA$5.91m 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$4.91m, we think shareholders really should watch Nippon Dragon Resources'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. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Nippon Dragon Resources will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Given its lack of meaningful operating revenue, investors are probably hoping that Nippon Dragon Resources finds some valuable resources, before it runs out of money.
Over the last twelve months Nippon Dragon Resources produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at CA$307k. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. For example, we would not want to see a repeat of last year's loss of-CA$319.5k. In the meantime, we consider the stock to be risky. For riskier companies like Nippon Dragon Resources I always like to keep an eye on whether insiders are buying or selling. So click here if you want to find out for yourself.
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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