Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Nabors Industries Ltd. (NYSE:NBR) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
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. If things get really bad, the lenders can take control of the business. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
What Is Nabors Industries's Net Debt?
The image below, which you can click on for greater detail, shows that Nabors Industries had debt of US$2.82b at the end of June 2021, a reduction from US$3.28b over a year. However, because it has a cash reserve of US$399.9m, its net debt is less, at about US$2.42b.NYSE:NBR Debt to Equity History October 5th 2021
How Strong Is Nabors Industries' Balance Sheet?
We can see from the most recent balance sheet that Nabors Industries had liabilities of US$529.1m falling due within a year, and liabilities of US$3.18b due beyond that. Offsetting these obligations, it had cash of US$399.9m as well as receivables valued at US$338.7m due within 12 months. So its liabilities total US$2.97b more than the combination of its cash and short-term receivables.
The deficiency here weighs heavily on the US$893.2m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Nabors Industries would probably need a major re-capitalization if its creditors were to demand repayment. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Nabors Industries'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.
In the last year Nabors Industries had a loss before interest and tax, and actually shrunk its revenue by 33%, to US$1.8b. To be frank that doesn't bode well.
While Nabors Industries's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping US$333m. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it lost US$623m in just last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is quite risky. We'd prefer to pass. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 3 warning signs with Nabors Industries , and understanding them should be part of your investment process.
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.
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.
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