Stock Analysis

Pharma Mar (BME:PHM) Seems To Use Debt Quite Sensibly

BME:PHM
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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.' 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 Pharma Mar, S.A. (BME:PHM) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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, 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 examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Pharma Mar

What Is Pharma Mar's Debt?

The image below, which you can click on for greater detail, shows that Pharma Mar had debt of €53.3m at the end of June 2021, a reduction from €59.5m over a year. But on the other hand it also has €216.7m in cash, leading to a €163.4m net cash position.

debt-equity-history-analysis
BME:PHM Debt to Equity History September 8th 2021

A Look At Pharma Mar's Liabilities

We can see from the most recent balance sheet that Pharma Mar had liabilities of €77.3m falling due within a year, and liabilities of €130.4m due beyond that. Offsetting this, it had €216.7m in cash and €27.9m in receivables that were due within 12 months. So it can boast €36.9m more liquid assets than total liabilities.

This surplus suggests that Pharma Mar has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Pharma Mar has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Pharma Mar's load is not too heavy, because its EBIT was down 24% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. 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. While Pharma Mar 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. Over the last two years, Pharma Mar actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While it is always sensible to investigate a company's debt, in this case Pharma Mar has €163.4m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of €19m, being 140% of its EBIT. So we don't have any problem with Pharma Mar's use of debt. 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. For instance, we've identified 1 warning sign for Pharma Mar that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.
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About BME:PHM

Pharma Mar

A biopharmaceutical company, engages in the research, development, production, and commercialization of bio-active principles for the use in oncology in Spain, Italy, Germany, Ireland, France, rest of the European Union, the United States, and internationally.

Exceptional growth potential with adequate balance sheet.