Is Sapiens International (NASDAQ:SPNS) Using Too Much Debt?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Sapiens International Corporation N.V. (NASDAQ:SPNS) makes use of debt. But is this debt a concern to shareholders?

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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Sapiens International

How Much Debt Does Sapiens International Carry?

The image below, which you can click on for greater detail, shows that Sapiens International had debt of US$79.0m at the end of March 2022, a reduction from US$98.7m over a year. However, it does have US$206.3m in cash offsetting this, leading to net cash of US$127.3m.

How Strong Is Sapiens International's Balance Sheet?

According to the last reported balance sheet, Sapiens International had liabilities of US$158.1m due within 12 months, and liabilities of US$132.0m due beyond 12 months. Offsetting this, it had US$206.3m in cash and US$96.8m in receivables that were due within 12 months. So it can boast US$13.1m more liquid assets than total liabilities.

Having regard to Sapiens International's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the US$1.25b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, Sapiens International boasts net cash, so it's fair to say it does not have a heavy debt load!

Another good sign is that Sapiens International has been able to increase its EBIT by 21% in twelve months, making it easier to pay down 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 Sapiens International 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Sapiens International may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Happily for any shareholders, Sapiens International 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.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Sapiens International has net cash of US$127.3m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of US$76m, being 113% of its EBIT. So is Sapiens International's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. 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 1 warning sign for Sapiens International you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.