These 4 Measures Indicate That Medacta Group (VTX:MOVE) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We note that Medacta Group SA (VTX:MOVE) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Medacta Group

How Much Debt Does Medacta Group Carry?

You can click the graphic below for the historical numbers, but it shows that Medacta Group had €114.0m of debt in December 2021, down from €131.4m, one year before. However, it does have €20.4m in cash offsetting this, leading to net debt of about €93.6m.

How Strong Is Medacta Group's Balance Sheet?

The latest balance sheet data shows that Medacta Group had liabilities of €136.6m due within a year, and liabilities of €126.3m falling due after that. On the other hand, it had cash of €20.4m and €67.3m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €175.2m.

Since publicly traded Medacta Group shares are worth a total of €2.19b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Medacta Group's net debt is only 0.98 times its EBITDA. And its EBIT covers its interest expense a whopping 20.9 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Also positive, Medacta Group grew its EBIT by 23% in the last year, and that should make it easier to pay down debt, going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Medacta Group'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, Medacta Group reported free cash flow worth 8.1% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Our View

Happily, Medacta Group's impressive interest cover implies it has the upper hand on its debt. But the stark truth is that we are concerned by its conversion of EBIT to free cash flow. It's also worth noting that Medacta Group is in the Medical Equipment industry, which is often considered to be quite defensive. Taking all this data into account, it seems to us that Medacta Group takes a pretty sensible approach to debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. 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 2 warning signs for Medacta Group you should know about.

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.