David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, Mineral Commodities Ltd (ASX:MRC) does carry debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Mineral Commodities

How Much Debt Does Mineral Commodities Carry?

As you can see below, Mineral Commodities had US$3.30m of debt at December 2020, down from US$5.24m a year prior. But on the other hand it also has US$6.90m in cash, leading to a US$3.61m net cash position. debt-equity-history-analysis

A Look At Mineral Commodities' Liabilities

According to the last reported balance sheet, Mineral Commodities had liabilities of US$14.0m due within 12 months, and liabilities of US$10.5m due beyond 12 months. Offsetting these obligations, it had cash of US$6.90m as well as receivables valued at US$13.4m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$4.18m.

Of course, Mineral Commodities has a market capitalization of US$84.7m, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Mineral Commodities boasts net cash, so it's fair to say it does not have a heavy debt load!



Another good sign is that Mineral Commodities has been able to increase its EBIT by 23% in twelve months, making it easier to pay down debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Mineral Commodities 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Mineral Commodities 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. In the last three years, Mineral Commodities's free cash flow amounted to 27% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

We could understand if investors are concerned about Mineral Commodities's liabilities, but we can be reassured by the fact it has has net cash of US$3.61m. And it impressed us with its EBIT growth of 23% over the last year. So we don't think Mineral Commodities's use of debt is risky. 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.  We've identified 4 warning signs  with Mineral Commodities (at least 1 which doesn't sit too well with us)  , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this freelist 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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