Laboratorios Farmaceuticos Rovi (BME:ROVI) Seems To Use Debt Quite Sensibly

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. We note that Laboratorios Farmaceuticos Rovi, S.A. (BME:ROVI) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Laboratorios Farmaceuticos Rovi

What Is Laboratorios Farmaceuticos Rovi's Debt?

As you can see below, Laboratorios Farmaceuticos Rovi had €50.5m of debt at June 2023, down from €55.6m a year prior. But it also has €155.5m in cash to offset that, meaning it has €105.0m net cash.

How Healthy Is Laboratorios Farmaceuticos Rovi's Balance Sheet?

According to the last reported balance sheet, Laboratorios Farmaceuticos Rovi had liabilities of €321.6m due within 12 months, and liabilities of €58.5m due beyond 12 months. Offsetting these obligations, it had cash of €155.5m as well as receivables valued at €124.9m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €99.6m.

Of course, Laboratorios Farmaceuticos Rovi has a market capitalization of €2.68b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Laboratorios Farmaceuticos Rovi boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, Laboratorios Farmaceuticos Rovi grew its EBIT by 7.0% 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 Laboratorios Farmaceuticos Rovi'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Laboratorios Farmaceuticos Rovi 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. During the last three years, Laboratorios Farmaceuticos Rovi produced sturdy free cash flow equating to 64% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Laboratorios Farmaceuticos Rovi has €105.0m in net cash. So is Laboratorios Farmaceuticos Rovi's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with Laboratorios Farmaceuticos Rovi (including 1 which doesn't sit too well with us) .

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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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.