Is HealthCare Global Enterprises (NSE:HCG) 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.' 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. Importantly, HealthCare Global Enterprises Limited (NSE:HCG) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

View our latest analysis for HealthCare Global Enterprises

What Is HealthCare Global Enterprises's Net Debt?

As you can see below, HealthCare Global Enterprises had ₹3.96b of debt at September 2021, down from ₹4.26b a year prior. However, it does have ₹1.84b in cash offsetting this, leading to net debt of about ₹2.12b.

How Strong Is HealthCare Global Enterprises' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that HealthCare Global Enterprises had liabilities of ₹4.73b due within 12 months and liabilities of ₹7.84b due beyond that. Offsetting this, it had ₹1.84b in cash and ₹2.18b in receivables that were due within 12 months. So its liabilities total ₹8.56b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since HealthCare Global Enterprises has a market capitalization of ₹35.2b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its 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).

Even though HealthCare Global Enterprises's debt is only 1.6, its interest cover is really very low at 0.40. In large part that's it has so much depreciation and amortisation. These charges may be non-cash, so they could be excluded when it comes to paying down debt. But the accounting charges are there for a reason -- some assets are seen to be losing value. Either way there's no doubt the stock is using meaningful leverage. Notably, HealthCare Global Enterprises made a loss at the EBIT level, last year, but improved that to positive EBIT of ₹334m in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if HealthCare Global Enterprises can strengthen its balance sheet over time. 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 company can only pay off debt with cold hard cash, not accounting profits. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Happily for any shareholders, HealthCare Global Enterprises actually produced more free cash flow than EBIT over the last year. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Based on what we've seen HealthCare Global Enterprises is not finding it easy, given its interest cover, but the other factors we considered give us cause to be optimistic. There's no doubt that its ability to to convert EBIT to free cash flow is pretty flash. It's also worth noting that HealthCare Global Enterprises is in the Healthcare industry, which is often considered to be quite defensive. When we consider all the elements mentioned above, it seems to us that HealthCare Global Enterprises is managing its debt quite well. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with HealthCare Global Enterprises .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.