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. As with many other companies AMAG Pharmaceuticals, Inc. (NASDAQ:AMAG) makes use of debt. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, 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.
What Is AMAG Pharmaceuticals's Net Debt?
The image below, which you can click on for greater detail, shows that AMAG Pharmaceuticals had debt of US$269.3m at the end of June 2019, a reduction from US$742.5m over a year. However, it also had US$261.0m in cash, and so its net debt is US$8.26m.
How Healthy Is AMAG Pharmaceuticals's Balance Sheet?
According to the last reported balance sheet, AMAG Pharmaceuticals had liabilities of US$246.3m due within 12 months, and liabilities of US$278.4m due beyond 12 months. Offsetting these obligations, it had cash of US$261.0m as well as receivables valued at US$83.2m due within 12 months. So its liabilities total US$180.5m more than the combination of its cash and short-term receivables.
While this might seem like a lot, it is not so bad since AMAG Pharmaceuticals has a market capitalization of US$410.3m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. 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 AMAG 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.
Over 12 months, AMAG Pharmaceuticals made a loss at the EBIT level, and saw its revenue drop to US$364m, which is a fall of 29%. To be frank that doesn't bode well.
Not only did AMAG Pharmaceuticals's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping US$95m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through US$64m of cash over the last year. So suffice it to say we consider the stock very risky. For riskier companies like AMAG Pharmaceuticals I always like to keep an eye on whether insiders are buying or selling. So click here if you want to find out for yourself.
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.
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