These 4 Measures Indicate That Horizon Therapeutics (NASDAQ:HZNP) Is Using Debt Safely

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Horizon Therapeutics Public Limited Company (NASDAQ:HZNP) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

Check out the opportunities and risks within the US Biotechs industry.

What Is Horizon Therapeutics's Net Debt?

As you can see below, Horizon Therapeutics had US$2.57b of debt, at September 2022, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has US$2.13b in cash leading to net debt of about US$434.6m.

How Healthy Is Horizon Therapeutics' Balance Sheet?

The latest balance sheet data shows that Horizon Therapeutics had liabilities of US$860.6m due within a year, and liabilities of US$3.13b falling due after that. Offsetting this, it had US$2.13b in cash and US$646.4m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$1.22b.

Of course, Horizon Therapeutics has a titanic market capitalization of US$17.6b, 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.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

With net debt sitting at just 0.54 times EBITDA, Horizon Therapeutics is arguably pretty conservatively geared. And it boasts interest cover of 9.0 times, which is more than adequate. Another good sign is that Horizon Therapeutics has been able to increase its EBIT by 22% in twelve months, making it easier to pay down debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Horizon Therapeutics'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, Horizon Therapeutics actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

Happily, Horizon Therapeutics's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. And that's just the beginning of the good news since its net debt to EBITDA is also very heartening. Overall, we don't think Horizon Therapeutics is taking any bad risks, as its debt load seems modest. So the balance sheet looks pretty healthy, to us. Another factor that would give us confidence in Horizon Therapeutics would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.