David Iben put it well when he said, ‘Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, Ilex Medical Ltd (TLV:ILX) does carry debt. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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. Ultimately, if the company can’t fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.
What Is Ilex Medical’s Net Debt?
As you can see below, Ilex Medical had ₪26.8m of debt at September 2020, down from ₪55.8m a year prior. But it also has ₪123.1m in cash to offset that, meaning it has ₪96.3m net cash.
How Healthy Is Ilex Medical’s Balance Sheet?
We can see from the most recent balance sheet that Ilex Medical had liabilities of ₪268.0m falling due within a year, and liabilities of ₪62.2m due beyond that. On the other hand, it had cash of ₪123.1m and ₪255.2m worth of receivables due within a year. So it can boast ₪48.1m more liquid assets than total liabilities.
This short term liquidity is a sign that Ilex Medical could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Ilex Medical has more cash than debt is arguably a good indication that it can manage its debt safely.
On top of that, Ilex Medical grew its EBIT by 63% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But you can’t view debt in total isolation; since Ilex Medical will need earnings to service that debt. So if you’re keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
Finally, a business needs free cash flow to pay off debt; accounting profits just don’t cut it. Ilex Medical 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. During the last three years, Ilex Medical produced sturdy free cash flow equating to 68% of its EBIT, about what we’d expect. This cold hard cash means it can reduce its debt when it wants to.
While we empathize with investors who find debt concerning, you should keep in mind that Ilex Medical has net cash of ₪96.3m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 63% over the last year. So we don’t think Ilex Medical’s use of debt is risky. 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. Take risks, for example – Ilex Medical has 1 warning sign we think you should be aware of.
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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