Bayer (ETR:BAYN) Has A Somewhat Strained Balance Sheet

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 Bayer Aktiengesellschaft (ETR:BAYN) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Bayer

What Is Bayer's Debt?

You can click the graphic below for the historical numbers, but it shows that Bayer had €41.2b of debt in September 2024, down from €47.4b, one year before. However, because it has a cash reserve of €6.34b, its net debt is less, at about €34.8b.

How Strong Is Bayer's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Bayer had liabilities of €25.0b due within 12 months and liabilities of €51.2b due beyond that. Offsetting this, it had €6.34b in cash and €13.8b in receivables that were due within 12 months. So it has liabilities totalling €56.1b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the €18.9b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Bayer would probably need a major re-capitalization if its creditors were to demand repayment.

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.

Bayer's net debt is 3.3 times its EBITDA, which is a significant but still reasonable amount of leverage. But its EBIT was about 11.3 times its interest expense, implying the company isn't really paying a high cost to maintain that level of debt. Even were the low cost to prove unsustainable, that is a good sign. Pleasingly, Bayer is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 367% gain in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Bayer's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Bayer's free cash flow amounted to 40% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

We feel some trepidation about Bayer's difficulty level of total liabilities, but we've got positives to focus on, too. To wit both its EBIT growth rate and interest cover were encouraging signs. Taking the abovementioned factors together we do think Bayer's debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. 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 example - Bayer has 1 warning sign we think you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.