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, Range Resources Corporation (NYSE:RRC) does carry debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
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. Ultimately, if the company can’t fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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 step when considering a company’s debt levels is to consider its cash and debt together.
See our latest analysis for Range Resources
What Is Range Resources’s Net Debt?
The image below, which you can click on for greater detail, shows that Range Resources had debt of US$1.77b at the end of September 2023, a reduction from US$2.36b over a year. However, because it has a cash reserve of US$162.8m, its net debt is less, at about US$1.61b.
How Healthy Is Range Resources’ Balance Sheet?
According to the last reported balance sheet, Range Resources had liabilities of US$643.5m due within 12 months, and liabilities of US$2.75b due beyond 12 months. On the other hand, it had cash of US$162.8m and US$217.3m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$3.02b.
While this might seem like a lot, it is not so bad since Range Resources has a market capitalization of US$8.49b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
Range Resources’s net debt is only 0.69 times its EBITDA. And its EBIT easily covers its interest expense, being 14.7 times the size. So we’re pretty relaxed about its super-conservative use of debt. Also good is that Range Resources grew its EBIT at 18% over the last year, further increasing its ability to manage debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Range Resources 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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. During the last two years, Range Resources produced sturdy free cash flow equating to 54% of its EBIT, about what we’d expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.
Happily, Range Resources’s impressive interest cover implies it has the upper hand on its debt. And that’s just the beginning of the good news since its net debt to EBITDA is also very heartening. When we consider the range of factors above, it looks like Range Resources is pretty sensible with its use of debt. While that brings some risk, it can also enhance returns for shareholders. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet – far from it. For instance, we’ve identified 3 warning signs for Range Resources (1 doesn’t sit too well with us) you should be aware of.
If you’re interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
What are the risks and opportunities for Range Resources?
Price-To-Earnings ratio (5.8x) is below the US market (15.4x)
Earnings grew by 8.4% over the past year
Earnings are forecast to decline by an average of 11.3% per year for the next 3 years
Significant insider selling over the past 3 months
View all Risks and Rewards
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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.