These 4 Measures Indicate That Ypsomed Holding (VTX:YPSN) Is Using Debt Reasonably Well

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.' 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. We can see that Ypsomed Holding AG (VTX:YPSN) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Ypsomed Holding

How Much Debt Does Ypsomed Holding Carry?

You can click the graphic below for the historical numbers, but it shows that Ypsomed Holding had CHF169.0m of debt in September 2022, down from CHF259.5m, one year before. However, it also had CHF17.2m in cash, and so its net debt is CHF151.9m.

How Healthy Is Ypsomed Holding's Balance Sheet?

The latest balance sheet data shows that Ypsomed Holding had liabilities of CHF265.2m due within a year, and liabilities of CHF16.7m falling due after that. Offsetting this, it had CHF17.2m in cash and CHF81.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CHF183.3m.

Of course, Ypsomed Holding has a market capitalization of CHF2.56b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

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.

Ypsomed Holding's net debt to EBITDA ratio of about 1.8 suggests only moderate use of debt. And its commanding EBIT of 20.6 times its interest expense, implies the debt load is as light as a peacock feather. Notably, Ypsomed Holding's EBIT launched higher than Elon Musk, gaining a whopping 237% on last year. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Ypsomed Holding can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Ypsomed Holding burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

The good news is that Ypsomed Holding's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. But the stark truth is that we are concerned by its conversion of EBIT to free cash flow. We would also note that Medical Equipment industry companies like Ypsomed Holding commonly do use debt without problems. Looking at all the aforementioned factors together, it strikes us that Ypsomed Holding can handle its debt fairly comfortably. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. 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. For instance, we've identified 2 warning signs for Ypsomed Holding that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.