Does Jazz Pharmaceuticals (NASDAQ:JAZZ) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Jazz Pharmaceuticals plc (NASDAQ:JAZZ) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 Jazz Pharmaceuticals

What Is Jazz Pharmaceuticals's Net Debt?

The image below, which you can click on for greater detail, shows that Jazz Pharmaceuticals had debt of US$5.72b at the end of March 2023, a reduction from US$6.02b over a year. However, because it has a cash reserve of US$1.17b, its net debt is less, at about US$4.55b.

How Strong Is Jazz Pharmaceuticals' Balance Sheet?

We can see from the most recent balance sheet that Jazz Pharmaceuticals had liabilities of US$908.9m falling due within a year, and liabilities of US$6.80b due beyond that. On the other hand, it had cash of US$1.17b and US$623.9m worth of receivables due within a year. So it has liabilities totalling US$5.92b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of US$8.15b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Jazz Pharmaceuticals has a debt to EBITDA ratio of 2.7 and its EBIT covered its interest expense 3.7 times. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Looking on the bright side, Jazz Pharmaceuticals boosted its EBIT by a silky 75% in the last year. Like the milk of human kindness that sort of growth increases resilience, making the company more capable of managing debt. 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 Jazz Pharmaceuticals 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Jazz Pharmaceuticals recorded free cash flow worth a fulsome 93% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

The good news is that Jazz Pharmaceuticals's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. But, on a more sombre note, we are a little concerned by its interest cover. Looking at all the aforementioned factors together, it strikes us that Jazz Pharmaceuticals can handle its debt fairly comfortably. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Jazz Pharmaceuticals you should know about.

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.