Warren Buffett famously said, '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. As with many other companies Questerre Energy Corporation (TSE:QEC) makes use of debt. But is this debt a concern to shareholders?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Questerre Energy's Debt?
You can click the graphic below for the historical numbers, but it shows that as of September 2019 Questerre Energy had CA$17.0m of debt, an increase on CA$15.8m, over one year. But on the other hand it also has CA$29.8m in cash, leading to a CA$12.9m net cash position.
A Look At Questerre Energy's Liabilities
The latest balance sheet data shows that Questerre Energy had liabilities of CA$36.1m due within a year, and liabilities of CA$14.4m falling due after that. Offsetting this, it had CA$29.8m in cash and CA$3.61m in receivables that were due within 12 months. So it has liabilities totalling CA$17.0m more than its cash and near-term receivables, combined.
Questerre Energy has a market capitalization of CA$72.7m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Questerre Energy also has more cash than debt, so we're pretty confident it can manage its debt safely.
Although Questerre Energy made a loss at the EBIT level, last year, it was also good to see that it generated CA$24m in EBIT over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Questerre Energy's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Questerre Energy 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. Over the last year, Questerre Energy saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.
While Questerre Energy does have more liabilities than liquid assets, it also has net cash of CA$12.9m. So we don't have any problem with Questerre Energy's use of debt. Of course, we wouldn't say no to the extra confidence that we'd gain if we knew that Questerre Energy insiders have been buying shares: if you're on the same wavelength, you can find out if insiders are buying by clicking this link.
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.
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