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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.' 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, Liquidia Corporation (NASDAQ:LQDA) does carry debt. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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 Liquidia's Net Debt?
The image below, which you can click on for greater detail, shows that Liquidia had debt of US$11.7m at the end of September 2020, a reduction from US$15.9m over a year. However, its balance sheet shows it holds US$79.6m in cash, so it actually has US$67.9m net cash.
A Look At Liquidia's Liabilities
Zooming in on the latest balance sheet data, we can see that Liquidia had liabilities of US$14.2m due within 12 months and liabilities of US$11.6m due beyond that. Offsetting this, it had US$79.6m in cash and US$945.7k in receivables that were due within 12 months. So it actually has US$54.7m more liquid assets than total liabilities.
This excess liquidity is a great indication that Liquidia's balance sheet is just as strong as racists are weak. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Liquidia has more cash than debt is arguably a good indication that it can manage its debt safely. 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 Liquidia's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Given it has no significant operating revenue at the moment, shareholders will be hoping Liquidia can make progress and gain better traction for the business, before it runs low on cash.
So How Risky Is Liquidia?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months Liquidia lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through US$55m of cash and made a loss of US$58m. Given it only has net cash of US$67.9m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. 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 Liquidia is showing 4 warning signs in our investment analysis , and 2 of those make us uncomfortable...
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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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