La Jolla Pharmaceutical Company (NASDAQ:LJPC), which has zero-debt on its balance sheet, can maximize capital returns by increasing debt due to its lower cost of capital. However, the trade-off is LJPC will have to follow strict debt obligations which will reduce its financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean LJPC has outstanding financial strength. I recommend you look at the following hurdles to assess LJPC’s financial health. See our latest analysis for La Jolla Pharmaceutical
Does LJPC’s growth rate justify its decision for financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. Though, the trade-offs are that lenders require stricter capital management requirements, in addition to having a higher claim on company assets relative to shareholders. Either LJPC does not have access to cheap capital, or it may believe this trade-off is not worth it. This makes sense only if the company has a competitive edge and is growing fast off its equity capital. Opposite to the high growth we were expecting, LJPC’s negative revenue growth of -41.72% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Does LJPC’s liquid assets cover its short-term commitments?
Since La Jolla Pharmaceutical doesn’t have any debt on its balance sheet, it doesn’t have any solvency issues, which is a term used to describe the company’s ability to meet its long-term obligations. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. Looking at LJPC’s most recent $9.8M liabilities, the company has been able to meet these obligations given the level of current assets of $67.4M, with a current ratio of 6.91x. However, a ratio greater than 3x may be considered as too high, as LJPC could be holding too much capital in a low-return investment environment.
Given that La Jolla Pharmaceutical is a relatively low-growth company, not taking advantage of lower cost debt may not be the best strategy. As an investor, you may want to figure out if there are company-specific reasons for not having any debt, and whether the company needs financial flexibility at this point in time. I admit this is a fairly basic analysis for LJPC’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research La Jolla Pharmaceutical to get a more holistic view of the stock by looking at:
- 1. Future Outlook: What are well-informed industry analysts predicting for LJPC’s future growth? Take a look at our free research report of analyst consensus for LJPC’s outlook.
- 2. Valuation: What is LJPC worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether LJPC is currently mispriced by the market.
- 3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.