Sapiens International (NASDAQ:SPNS) Could Easily Take On More Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Sapiens International Corporation N.V. (NASDAQ:SPNS) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Sapiens International

What Is Sapiens International's Debt?

As you can see below, Sapiens International had US$59.3m of debt at March 2023, down from US$79.0m a year prior. But it also has US$181.7m in cash to offset that, meaning it has US$122.4m net cash.

How Healthy Is Sapiens International's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Sapiens International had liabilities of US$149.0m due within 12 months and liabilities of US$96.4m due beyond that. Offsetting these obligations, it had cash of US$181.7m as well as receivables valued at US$106.5m due within 12 months. So it actually has US$42.8m more liquid assets than total liabilities.

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

And we also note warmly that Sapiens International grew its EBIT by 12% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Sapiens International'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 company can only pay off debt with cold hard cash, not accounting profits. 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. Over the last three years, Sapiens International recorded free cash flow worth a fulsome 92% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Sapiens International has net cash of US$122.4m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of US$38m, being 92% 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. For example - Sapiens International has 1 warning sign we think you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.