Is DEMIRE Deutsche Mittelstand Real Estate (ETR:DMRE) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies DEMIRE Deutsche Mittelstand Real Estate AG (ETR:DMRE) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for DEMIRE Deutsche Mittelstand Real Estate

What Is DEMIRE Deutsche Mittelstand Real Estate's Debt?

As you can see below, DEMIRE Deutsche Mittelstand Real Estate had €885.8m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. However, it does have €93.5m in cash offsetting this, leading to net debt of about €792.3m.

A Look At DEMIRE Deutsche Mittelstand Real Estate's Liabilities

We can see from the most recent balance sheet that DEMIRE Deutsche Mittelstand Real Estate had liabilities of €51.5m falling due within a year, and liabilities of €1.06b due beyond that. Offsetting these obligations, it had cash of €93.5m as well as receivables valued at €28.5m due within 12 months. So it has liabilities totalling €993.8m more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the €316.5m 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. After all, DEMIRE Deutsche Mittelstand Real Estate would likely require a major re-capitalisation if it had to pay its creditors today.

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). 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).

With a net debt to EBITDA ratio of 14.8, it's fair to say DEMIRE Deutsche Mittelstand Real Estate does have a significant amount of debt. But the good news is that it boasts fairly comforting interest cover of 4.9 times, suggesting it can responsibly service its obligations. Sadly, DEMIRE Deutsche Mittelstand Real Estate's EBIT actually dropped 4.6% in the last year. If earnings continue on that decline then managing that debt will be difficult like delivering hot soup on a unicycle. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine DEMIRE Deutsche Mittelstand Real Estate'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, DEMIRE Deutsche Mittelstand Real Estate recorded negative free cash flow, in total. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Our View

To be frank both DEMIRE Deutsche Mittelstand Real Estate's net debt to EBITDA and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least its interest cover is not so bad. After considering the datapoints discussed, we think DEMIRE Deutsche Mittelstand Real Estate has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. 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. Case in point: We've spotted 4 warning signs for DEMIRE Deutsche Mittelstand Real Estate you should be aware of, and 2 of them are a bit unpleasant.

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.