We Think WCM Beteiligungs- und Grundbesitz-AG (ETR:WCMK) Is Taking Some Risk With Its Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. We can see that WCM Beteiligungs- und Grundbesitz-AG (ETR:WCMK) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for WCM Beteiligungs- und Grundbesitz-AG

What Is WCM Beteiligungs- und Grundbesitz-AG's Debt?

The image below, which you can click on for greater detail, shows that WCM Beteiligungs- und Grundbesitz-AG had debt of €142.8m at the end of June 2021, a reduction from €355.9m over a year. However, because it has a cash reserve of €131.1m, its net debt is less, at about €11.7m.

How Healthy Is WCM Beteiligungs- und Grundbesitz-AG's Balance Sheet?

According to the last reported balance sheet, WCM Beteiligungs- und Grundbesitz-AG had liabilities of €25.0m due within 12 months, and liabilities of €182.4m due beyond 12 months. Offsetting this, it had €131.1m in cash and €5.43m in receivables that were due within 12 months. So its liabilities total €70.8m more than the combination of its cash and short-term receivables.

Of course, WCM Beteiligungs- und Grundbesitz-AG has a market capitalization of €737.4m, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

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.

While WCM Beteiligungs- und Grundbesitz-AG's low debt to EBITDA ratio of 0.39 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 5.9 times last year does give us pause. So we'd recommend keeping a close eye on the impact financing costs are having on the business. Shareholders should be aware that WCM Beteiligungs- und Grundbesitz-AG's EBIT was down 44% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. The balance sheet is clearly the area to focus on when you are analysing debt. But it is WCM Beteiligungs- und Grundbesitz-AG's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. Looking at the most recent three years, WCM Beteiligungs- und Grundbesitz-AG recorded free cash flow of 33% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

WCM Beteiligungs- und Grundbesitz-AG's EBIT growth rate was a real negative on this analysis, although the other factors we considered cast it in a significantly better light. In particular, its net debt to EBITDA was re-invigorating. We think that WCM Beteiligungs- und Grundbesitz-AG's debt does make it a bit risky, after considering the aforementioned data points together. That's not necessarily a bad thing, since leverage can boost returns on equity, but it is something to be aware of. 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. Be aware that WCM Beteiligungs- und Grundbesitz-AG is showing 5 warning signs in our investment analysis , and 1 of those is 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.

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.

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