Is TAG Immobilien (ETR:TEG) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that TAG Immobilien AG (ETR:TEG) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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.

Check out our latest analysis for TAG Immobilien

How Much Debt Does TAG Immobilien Carry?

The image below, which you can click on for greater detail, shows that at September 2022 TAG Immobilien had debt of €3.66b, up from €3.09b in one year. However, because it has a cash reserve of €79.3m, its net debt is less, at about €3.58b.

How Healthy Is TAG Immobilien's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that TAG Immobilien had liabilities of €1.31b due within 12 months and liabilities of €3.66b due beyond that. Offsetting these obligations, it had cash of €79.3m as well as receivables valued at €29.6m due within 12 months. So its liabilities total €4.86b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the €1.20b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, TAG Immobilien 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While TAG Immobilien's debt to EBITDA ratio of 16.2 suggests a heavy debt load, its interest coverage of 8.0 implies it services that debt with ease. Our best guess is that the company does indeed have significant debt obligations. Importantly, TAG Immobilien's EBIT fell a jaw-dropping 21% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine TAG Immobilien'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, TAG Immobilien produced sturdy free cash flow equating to 75% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

To be frank both TAG Immobilien's EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Overall, it seems to us that TAG Immobilien's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example TAG Immobilien has 6 warning signs (and 2 which are a bit unpleasant) we think you should know about.

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.