West Pharmaceutical Services (NYSE:WST) Has A Pretty Healthy Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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 note that West Pharmaceutical Services, Inc. (NYSE:WST) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for West Pharmaceutical Services

What Is West Pharmaceutical Services's Net Debt?

The chart below, which you can click on for greater detail, shows that West Pharmaceutical Services had US$207.3m in debt in September 2023; about the same as the year before. But it also has US$898.6m in cash to offset that, meaning it has US$691.3m net cash.

A Look At West Pharmaceutical Services' Liabilities

Zooming in on the latest balance sheet data, we can see that West Pharmaceutical Services had liabilities of US$533.5m due within 12 months and liabilities of US$353.0m due beyond that. On the other hand, it had cash of US$898.6m and US$539.0m worth of receivables due within a year. So it actually has US$551.1m more liquid assets than total liabilities.

This short term liquidity is a sign that West Pharmaceutical Services could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that West Pharmaceutical Services has more cash than debt is arguably a good indication that it can manage its debt safely.

While West Pharmaceutical Services doesn't seem to have gained much on the EBIT line, at least earnings remain stable for now. 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 West Pharmaceutical Services 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While West Pharmaceutical Services has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, West Pharmaceutical Services produced sturdy free cash flow equating to 53% 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 we empathize with investors who find debt concerning, you should keep in mind that West Pharmaceutical Services has net cash of US$691.3m, as well as more liquid assets than liabilities. So we don't have any problem with West Pharmaceutical Services's use of debt. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of West Pharmaceutical Services's earnings per share history for free.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.