Is Eifelhöhen-Klinik (FRA:EIF) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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 Eifelhöhen-Klinik AG (FRA:EIF) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Eifelhöhen-Klinik

How Much Debt Does Eifelhöhen-Klinik Carry?

As you can see below, Eifelhöhen-Klinik had €18.3m of debt at December 2020, down from €20.3m a year prior. However, it also had €7.07m in cash, and so its net debt is €11.2m.

How Strong Is Eifelhöhen-Klinik's Balance Sheet?

The latest balance sheet data shows that Eifelhöhen-Klinik had liabilities of €9.51m due within a year, and liabilities of €45.9m falling due after that. Offsetting these obligations, it had cash of €7.07m as well as receivables valued at €4.24m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €44.1m.

The deficiency here weighs heavily on the €13.3m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Eifelhöhen-Klinik would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Eifelhöhen-Klinik's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Eifelhöhen-Klinik had a loss before interest and tax, and actually shrunk its revenue by 27%, to €36m. To be frank that doesn't bode well.

Caveat Emptor

Not only did Eifelhöhen-Klinik's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost €473k at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely since it is low on liquid assets, and made a loss of €1.4m in the last year. So while it's not wise to assume the company will fail, we do think it's 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 4 warning signs for Eifelhöhen-Klinik you should be aware of, and 1 of them is potentially serious.

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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