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, Eagle Pharmaceuticals, Inc. (NASDAQ:EGRX) does carry debt. But the more important question is: how much risk is that debt creating?
Why Does Debt Bring Risk?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Eagle Pharmaceuticals's Debt?
As you can see below, Eagle Pharmaceuticals had US$33.1m of debt at December 2020, down from US$38.6m a year prior. However, its balance sheet shows it holds US$103.2m in cash, so it actually has US$70.0m net cash.
How Strong Is Eagle Pharmaceuticals' Balance Sheet?
We can see from the most recent balance sheet that Eagle Pharmaceuticals had liabilities of US$38.1m falling due within a year, and liabilities of US$29.1m due beyond that. Offsetting this, it had US$103.2m in cash and US$51.1m in receivables that were due within 12 months. So it actually has US$87.1m more liquid assets than total liabilities.
It's good to see that Eagle Pharmaceuticals has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Eagle Pharmaceuticals has more cash than debt is arguably a good indication that it can manage its debt safely.
In addition to that, we're happy to report that Eagle Pharmaceuticals has boosted its EBIT by 52%, thus reducing the spectre of future debt repayments. 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 Eagle Pharmaceuticals 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. Eagle Pharmaceuticals may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Eagle Pharmaceuticals actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
While we empathize with investors who find debt concerning, you should keep in mind that Eagle Pharmaceuticals has net cash of US$70.0m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of US$49m, being 154% of its EBIT. The bottom line is that we do not find Eagle Pharmaceuticals's debt levels at all concerning. 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. To that end, you should be aware of the 1 warning sign we've spotted with Eagle Pharmaceuticals .
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. 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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