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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Verona Pharma plc (NASDAQ:VRNA) does have debt on its balance sheet. But is this debt a concern to shareholders?
When Is Debt A Problem?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. 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 think about a company's use of debt, we first look at cash and debt together.
View our latest analysis for Verona Pharma
How Much Debt Does Verona Pharma Carry?
As you can see below, at the end of September 2023, Verona Pharma had US$19.9m of debt, up from US$5.04m a year ago. Click the image for more detail. But it also has US$257.4m in cash to offset that, meaning it has US$237.5m net cash.
A Look At Verona Pharma's Liabilities
We can see from the most recent balance sheet that Verona Pharma had liabilities of US$9.01m falling due within a year, and liabilities of US$19.9m due beyond that. Offsetting these obligations, it had cash of US$257.4m as well as receivables valued at US$9.51m due within 12 months. So it actually has US$237.9m more liquid assets than total liabilities.
This surplus suggests that Verona Pharma is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. 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 it is future earnings, more than anything, that will determine Verona Pharma's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
It seems likely shareholders hope that Verona Pharma can significantly advance the business plan before too long, because it doesn't have any significant revenue at the moment.
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$48m of cash and made a loss of US$51m. With only US$237.5m on the balance sheet, it would appear that its going to need to raise capital again soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 2 warning signs for Verona Pharma (1 is significant) 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.