These 4 Measures Indicate That CompuGroup Medical SE KGaA (ETR:COP) Is Using Debt Reasonably Well

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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, CompuGroup Medical SE & Co. KGaA (ETR:COP) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for CompuGroup Medical SE KGaA

What Is CompuGroup Medical SE KGaA's Net Debt?

As you can see below, at the end of September 2022, CompuGroup Medical SE KGaA had €747.3m of debt, up from €660.4m a year ago. Click the image for more detail. However, it does have €85.8m in cash offsetting this, leading to net debt of about €661.4m.

How Healthy Is CompuGroup Medical SE KGaA's Balance Sheet?

The latest balance sheet data shows that CompuGroup Medical SE KGaA had liabilities of €336.4m due within a year, and liabilities of €943.9m falling due after that. Offsetting these obligations, it had cash of €85.8m as well as receivables valued at €238.9m due within 12 months. So its liabilities total €955.6m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since CompuGroup Medical SE KGaA has a market capitalization of €1.96b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

CompuGroup Medical SE KGaA's net debt is 4.4 times its EBITDA, which is a significant but still reasonable amount of leverage. However, its interest coverage of 12.3 is very high, suggesting that the interest expense on the debt is currently quite low. The bad news is that CompuGroup Medical SE KGaA saw its EBIT decline by 12% over the last year. If that sort of decline is not arrested, then the managing its debt will be harder than selling broccoli flavoured ice-cream for a premium. 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 CompuGroup Medical SE KGaA'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, 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 most recent three years, CompuGroup Medical SE KGaA recorded free cash flow worth 69% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

On our analysis CompuGroup Medical SE KGaA's interest cover should signal that it won't have too much trouble with its debt. But the other factors we noted above weren't so encouraging. In particular, net debt to EBITDA gives us cold feet. We would also note that Healthcare Services industry companies like CompuGroup Medical SE KGaA commonly do use debt without problems. Looking at all this data makes us feel a little cautious about CompuGroup Medical SE KGaA's debt levels. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more 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. Case in point: We've spotted 1 warning sign for CompuGroup Medical SE KGaA 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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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.