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The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. We can see that Neurocrine Biosciences, Inc. (NASDAQ:NBIX) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free 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, 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.
How Much Debt Does Neurocrine Biosciences Carry?
You can click the graphic below for the historical numbers, but it shows that as of December 2019 Neurocrine Biosciences had US$408.8m of debt, an increase on US$388.5m, over one year. But on the other hand it also has US$670.5m in cash, leading to a US$261.7m net cash position.
How Healthy Is Neurocrine Biosciences's Balance Sheet?
According to the last reported balance sheet, Neurocrine Biosciences had liabilities of US$565.3m due within 12 months, and liabilities of US$103.8m due beyond 12 months. Offsetting this, it had US$670.5m in cash and US$126.6m in receivables that were due within 12 months. So it can boast US$128.0m more liquid assets than total liabilities.
Having regard to Neurocrine Biosciences's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the US$9.18b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Neurocrine Biosciences has more cash than debt is arguably a good indication that it can manage its debt safely.
Even more impressive was the fact that Neurocrine Biosciences grew its EBIT by 444% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. 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 Neurocrine Biosciences 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. Neurocrine Biosciences 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 most recent two years, Neurocrine Biosciences recorded free cash flow worth 80% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.
While we empathize with investors who find debt concerning, you should keep in mind that Neurocrine Biosciences has net cash of US$261.7m, as well as more liquid assets than liabilities. And we liked the look of last year's 444% year-on-year EBIT growth. So we don't think Neurocrine Biosciences's use of debt is 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. Be aware that Neurocrine Biosciences 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.
If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Simply Wall St has no position in the stocks mentioned.
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