The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 can see that Sigma Lithium Corporation (NASDAQ:SGML) does use debt in its business. But the real question is whether this debt is making the company risky.
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for Sigma Lithium
How Much Debt Does Sigma Lithium Carry?
As you can see below, at the end of June 2023, Sigma Lithium had CA$132.7m of debt, up from none a year ago. Click the image for more detail. However, because it has a cash reserve of CA$45.6m, its net debt is less, at about CA$87.1m.
How Strong Is Sigma Lithium's Balance Sheet?
The latest balance sheet data shows that Sigma Lithium had liabilities of CA$77.0m due within a year, and liabilities of CA$129.9m falling due after that. Offsetting this, it had CA$45.6m in cash and CA$3.08m in receivables that were due within 12 months. So it has liabilities totalling CA$158.2m more than its cash and near-term receivables, combined.
Since publicly traded Sigma Lithium shares are worth a total of CA$4.05b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Sigma Lithium 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.
Given its lack of meaningful operating revenue, investors are probably hoping that Sigma Lithium finds some valuable resources, before it runs out of money.
Caveat Emptor
Over the last twelve months Sigma Lithium produced an earnings before interest and tax (EBIT) loss. Indeed, it lost CA$178m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through CA$212m of cash over the last year. So in short it's a really risky stock. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Sigma Lithium has 4 warning signs (and 2 which shouldn't be ignored) we think you should know about.
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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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.