Is Siemens Healthineers (ETR:SHL) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. As with many other companies Siemens Healthineers AG (ETR:SHL) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Siemens Healthineers

How Much Debt Does Siemens Healthineers Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Siemens Healthineers had debt of €5.07b, up from €4.50b in one year. However, it also had €687.0m in cash, and so its net debt is €4.39b.

A Look At Siemens Healthineers's Liabilities

We can see from the most recent balance sheet that Siemens Healthineers had liabilities of €7.29b falling due within a year, and liabilities of €5.29b due beyond that. Offsetting this, it had €687.0m in cash and €7.08b in receivables that were due within 12 months. So it has liabilities totalling €4.82b more than its cash and near-term receivables, combined.

Given Siemens Healthineers has a humongous market capitalization of €43.3b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Siemens Healthineers's net debt to EBITDA ratio of about 1.6 suggests only moderate use of debt. And its strong interest cover of 84.5 times, makes us even more comfortable. On the other hand, Siemens Healthineers's EBIT dived 15%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Siemens Healthineers'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 company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, Siemens Healthineers recorded free cash flow worth 56% 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 Siemens Healthineers'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, EBIT growth rate gives us cold feet. We would also note that Medical Equipment industry companies like Siemens Healthineers commonly do use debt without problems. When we consider all the elements mentioned above, it seems to us that Siemens Healthineers is managing its debt quite well. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. 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. For example, we've discovered 3 warning signs for Siemens Healthineers that you should be aware of before investing here.

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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