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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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Supernus Pharmaceuticals, Inc. (NASDAQ:SUPN) makes use of debt. But should shareholders be worried about its use of debt?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Supernus Pharmaceuticals's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of September 2021 Supernus Pharmaceuticals had US$374.8m of debt, an increase on US$357.5m, over one year. However, it does have US$443.9m in cash offsetting this, leading to net cash of US$69.1m.
How Strong Is Supernus Pharmaceuticals' Balance Sheet?
According to the last reported balance sheet, Supernus Pharmaceuticals had liabilities of US$234.7m due within 12 months, and liabilities of US$509.9m due beyond 12 months. On the other hand, it had cash of US$443.9m and US$133.7m worth of receivables due within a year. So it has liabilities totalling US$167.0m more than its cash and near-term receivables, combined.
Of course, Supernus Pharmaceuticals has a market capitalization of US$1.70b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Supernus Pharmaceuticals boasts net cash, so it's fair to say it does not have a heavy debt load!
It is just as well that Supernus Pharmaceuticals's load is not too heavy, because its EBIT was down 25% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 Supernus Pharmaceuticals can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Supernus 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. During the last three years, Supernus Pharmaceuticals generated free cash flow amounting to a very robust 83% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
While it is always sensible to look at a company's total liabilities, it is very reassuring that Supernus Pharmaceuticals has US$69.1m in net cash. And it impressed us with free cash flow of US$108m, being 83% of its EBIT. So we don't have any problem with Supernus Pharmaceuticals's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Supernus Pharmaceuticals is showing 2 warning signs in our investment analysis , you should know about...
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
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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