We Think CompuGroup Medical SE KGaA (ETR:COP) Can Stay On Top Of Its Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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, CompuGroup Medical SE & Co. KGaA (ETR:COP) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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 think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for CompuGroup Medical SE KGaA

What Is CompuGroup Medical SE KGaA's Net Debt?

As you can see below, CompuGroup Medical SE KGaA had €714.5m of debt at September 2023, down from €747.3m a year prior. However, it does have €66.6m in cash offsetting this, leading to net debt of about €647.9m.

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

Zooming in on the latest balance sheet data, we can see that CompuGroup Medical SE KGaA had liabilities of €339.7m due within 12 months and liabilities of €895.5m due beyond that. Offsetting these obligations, it had cash of €66.6m as well as receivables valued at €253.0m due within 12 months. So it has liabilities totalling €915.5m more than its cash and near-term receivables, combined.

This deficit isn't so bad because CompuGroup Medical SE KGaA is worth €1.92b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

CompuGroup Medical SE KGaA has a debt to EBITDA ratio of 3.4 and its EBIT covered its interest expense 6.8 times. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Importantly, CompuGroup Medical SE KGaA grew its EBIT by 59% over the last twelve months, and that growth will make it easier to handle its debt. 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 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, CompuGroup Medical SE KGaA recorded free cash flow worth 80% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Our View

CompuGroup Medical SE KGaA's EBIT growth rate suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But truth be told we feel its net debt to EBITDA does undermine this impression a bit. It's also worth noting that CompuGroup Medical SE KGaA is in the Healthcare Services industry, which is often considered to be quite defensive. Taking all this data into account, it seems to us that CompuGroup Medical SE KGaA 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. However, not all investment risk resides within the balance sheet - far from it. For example - CompuGroup Medical SE KGaA has 1 warning sign we think 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.