Eton Pharmaceuticals (NASDAQ:ETON) Is Using Debt Safely

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Eton Pharmaceuticals, Inc. (NASDAQ:ETON) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Eton Pharmaceuticals

What Is Eton Pharmaceuticals's Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2021 Eton Pharmaceuticals had US$6.76m of debt, an increase on US$4.95m, over one year. But it also has US$25.8m in cash to offset that, meaning it has US$19.0m net cash.

A Look At Eton Pharmaceuticals' Liabilities

We can see from the most recent balance sheet that Eton Pharmaceuticals had liabilities of US$3.11m falling due within a year, and liabilities of US$6.06m due beyond that. Offsetting this, it had US$25.8m in cash and US$303.0k in receivables that were due within 12 months. So it actually has US$16.9m more liquid assets than total liabilities.

This surplus suggests that Eton Pharmaceuticals has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Eton Pharmaceuticals has more cash than debt is arguably a good indication that it can manage its debt safely. 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 Eton Pharmaceuticals can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Eton Pharmaceuticals wasn't profitable at an EBIT level, but managed to grow its revenue by 2,475%, to US$15m. That's virtually the hole-in-one of revenue growth!

So How Risky Is Eton Pharmaceuticals?

Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months Eton Pharmaceuticals lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through US$9.0m of cash and made a loss of US$11m. Given it only has net cash of US$19.0m, the company may need to raise more capital if it doesn't reach break-even soon. The good news for shareholders is that Eton Pharmaceuticals has dazzling revenue growth, so there's a very good chance it can boost its free cash flow in the years to come. High growth pre-profit companies may well be risky, but they can also offer great rewards. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Eton Pharmaceuticals 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.

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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