Howard Marks put it nicely when he said that, rather than worrying about share price volatility, ‘The possibility of permanent loss is the risk I worry about… and every practical investor I know worries about.’ 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. As with many other companies Green Plains Inc. (NASDAQ:GPRE) makes use of debt. But the real question is whether this debt is making the company risky.

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company’s debt levels is to consider its cash and debt together.

What Is Green Plains’s Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2021 Green Plains had US$722.7m of debt, an increase on US$526.2m, over one year. However, because it has a cash reserve of US$551.1m, its net debt is less, at about US$171.6m.

A Look At Green Plains’ Liabilities

Zooming in on the latest balance sheet data, we can see that Green Plains had liabilities of US$471.8m due within 12 months and liabilities of US$585.9m due beyond that. On the other hand, it had cash of US$551.1m and US$120.9m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$385.8m.

While this might seem like a lot, it is not so bad since Green Plains has a market capitalization of US$1.53b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it’s clear that we should definitely closely examine whether it can manage its debt without dilution. 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 Green Plains can strengthen its balance sheet over time.

Over 12 months, Green Plains reported revenue of US$2.8b, which is a gain of 47%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

While we can certainly appreciate Green Plains’s revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost US$4.1m 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 US$183m of cash over the last year. So suffice it to say we consider the stock very risky. 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.