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. We can see that Eagle Pharmaceuticals, Inc. (NASDAQ:EGRX) does use debt in its business. 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 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does Eagle Pharmaceuticals Carry?
You can click the graphic below for the historical numbers, but it shows that Eagle Pharmaceuticals had US$42.0m of debt in March 2019, down from US$47.9m, one year before. But it also has US$102.1m in cash to offset that, meaning it has US$60.1m net cash.
A Look At Eagle Pharmaceuticals's Liabilities
We can see from the most recent balance sheet that Eagle Pharmaceuticals had liabilities of US$44.2m falling due within a year, and liabilities of US$39.9m due beyond that. On the other hand, it had cash of US$102.1m and US$63.9m worth of receivables due within a year. So it actually has US$82.0m more liquid assets than total liabilities.
This surplus suggests that Eagle Pharmaceuticals has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Eagle Pharmaceuticals has more cash than debt is arguably a good indication that it can manage its debt safely.
Also positive, Eagle Pharmaceuticals grew its EBIT by 25% in the last year, and that should make it easier to pay down debt, going forward. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Eagle Pharmaceuticals's ability to maintain a healthy balance sheet going forward. 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. While Eagle Pharmaceuticals has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Eagle Pharmaceuticals generated free cash flow amounting to a very robust 88% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
While we empathize with investors who find debt concerning, you should keep in mind that Eagle Pharmaceuticals has net cash of US$60m, as well as more liquid assets than liabilities. The cherry on top was that in converted 88% of that EBIT to free cash flow, bringing in US$73m. So we don't think Eagle Pharmaceuticals's use of debt is risky. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Eagle Pharmaceuticals's earnings per share history for free.
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.
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