Pharma Mar (BME:PHM) Has A Rock Solid Balance Sheet

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Pharma Mar, S.A. (BME:PHM) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Pharma Mar

How Much Debt Does Pharma Mar Carry?

You can click the graphic below for the historical numbers, but it shows that Pharma Mar had €39.8m of debt in September 2022, down from €50.7m, one year before. However, its balance sheet shows it holds €186.4m in cash, so it actually has €146.5m net cash.

A Look At Pharma Mar's Liabilities

We can see from the most recent balance sheet that Pharma Mar had liabilities of €89.9m falling due within a year, and liabilities of €76.7m due beyond that. Offsetting this, it had €186.4m in cash and €29.2m in receivables that were due within 12 months. So it actually has €48.9m more liquid assets than total liabilities.

This short term liquidity is a sign that Pharma Mar could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Pharma Mar has more cash than debt is arguably a good indication that it can manage its debt safely.

The good news is that Pharma Mar has increased its EBIT by 8.5% over twelve months, which should ease any concerns about debt repayment. 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 Pharma Mar can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Pharma Mar 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 last three years, Pharma Mar actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Pharma Mar has net cash of €146.5m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of €41m, being 113% of its EBIT. So is Pharma Mar's debt a risk? It doesn't seem so to us. 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 Pharma Mar'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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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.