Laboratorio Reig Jofre (BME:RJF) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 note that Laboratorio Reig Jofre, S.A. (BME:RJF) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Laboratorio Reig Jofre

How Much Debt Does Laboratorio Reig Jofre Carry?

The image below, which you can click on for greater detail, shows that at March 2021 Laboratorio Reig Jofre had debt of €34.6m, up from €28.4m in one year. However, it also had €14.5m in cash, and so its net debt is €20.2m.

How Healthy Is Laboratorio Reig Jofre's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Laboratorio Reig Jofre had liabilities of €86.4m due within 12 months and liabilities of €51.0m due beyond that. Offsetting these obligations, it had cash of €14.5m as well as receivables valued at €53.7m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €69.2m.

Since publicly traded Laboratorio Reig Jofre shares are worth a total of €406.4m, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Laboratorio Reig Jofre's net debt is only 0.94 times its EBITDA. And its EBIT covers its interest expense a whopping 16.2 times over. So we're pretty relaxed about its super-conservative use of debt. Fortunately, Laboratorio Reig Jofre grew its EBIT by 2.7% in the last year, making that debt load look even more manageable. 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 Laboratorio Reig Jofre's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Laboratorio Reig Jofre burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

Based on what we've seen Laboratorio Reig Jofre is not finding it easy, given its conversion of EBIT to free cash flow, but the other factors we considered give us cause to be optimistic. In particular, we are dazzled with its interest cover. Looking at all this data makes us feel a little cautious about Laboratorio Reig Jofre's debt levels. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. 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 Laboratorio Reig Jofre's earnings per share history for free.

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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