Verona Pharma (NASDAQ:VRNA) Has Debt But No Earnings; Should You Worry?

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. We can see that Verona Pharma plc (NASDAQ:VRNA) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. 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 step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Verona Pharma

How Much Debt Does Verona Pharma Carry?

You can click the graphic below for the historical numbers, but it shows that as of December 2022 Verona Pharma had US$9.77m of debt, an increase on US$4.87m, over one year. However, its balance sheet shows it holds US$227.8m in cash, so it actually has US$218.1m net cash.

How Strong Is Verona Pharma's Balance Sheet?

According to the last reported balance sheet, Verona Pharma had liabilities of US$19.0m due within 12 months, and liabilities of US$9.97m due beyond 12 months. Offsetting these obligations, it had cash of US$227.8m as well as receivables valued at US$9.28m due within 12 months. So it can boast US$208.1m more liquid assets than total liabilities.

This short term liquidity is a sign that Verona Pharma could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Verona Pharma boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Verona Pharma 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.

Given it has no significant operating revenue at the moment, shareholders will be hoping Verona Pharma can make progress and gain better traction for the business, before it runs low on cash.

So How Risky Is Verona Pharma?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that Verona Pharma had an earnings before interest and tax (EBIT) loss, over the last year. Indeed, in that time it burnt through US$60m of cash and made a loss of US$69m. Given it only has net cash of US$218.1m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. 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. For example, we've discovered 3 warning signs for Verona Pharma (1 is concerning!) that you should be aware of before investing here.

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.

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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.