Is Medartis Holding (VTX:MED) A Risky Investment?

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.' 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. Importantly, Medartis Holding AG (VTX:MED) does carry debt. But is this debt a concern to shareholders?

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. 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.

See our latest analysis for Medartis Holding

What Is Medartis Holding's Debt?

As you can see below, at the end of June 2023, Medartis Holding had CHF27.4m of debt, up from none a year ago. Click the image for more detail. However, because it has a cash reserve of CHF15.0m, its net debt is less, at about CHF12.4m.

How Strong Is Medartis Holding's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Medartis Holding had liabilities of CHF47.2m due within 12 months and liabilities of CHF42.7m due beyond that. Offsetting this, it had CHF15.0m in cash and CHF54.5m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CHF20.4m.

This state of affairs indicates that Medartis Holding's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CHF1.04b company is short on cash, but still worth keeping an eye on the balance sheet. Carrying virtually no net debt, Medartis Holding has a very light debt load indeed.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Medartis Holding has a very low debt to EBITDA ratio of 0.87 so it is strange to see weak interest coverage, with last year's EBIT being only 0.70 times the interest expense. So while we're not necessarily alarmed we think that its debt is far from trivial. Shareholders should be aware that Medartis Holding's EBIT was down 73% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. 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 Medartis Holding'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Medartis Holding saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

On the face of it, Medartis Holding's conversion of EBIT to free cash flow left us tentative about the stock, and its EBIT growth rate was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at managing its debt, based on its EBITDA,; that's encouraging. We should also note that Medical Equipment industry companies like Medartis Holding commonly do use debt without problems. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making Medartis Holding stock a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Medartis Holding you should be aware of, and 1 of them is significant.

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.