Here's Why BrightSpring Health Services (NASDAQ:BTSG) Is Weighed Down By Its Debt Load

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, BrightSpring Health Services, Inc. (NASDAQ:BTSG) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. 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 BrightSpring Health Services

What Is BrightSpring Health Services's Debt?

The image below, which you can click on for greater detail, shows that BrightSpring Health Services had debt of US$2.61b at the end of June 2024, a reduction from US$3.46b over a year. Net debt is about the same, since the it doesn't have much cash.

A Look At BrightSpring Health Services' Liabilities

Zooming in on the latest balance sheet data, we can see that BrightSpring Health Services had liabilities of US$1.15b due within 12 months and liabilities of US$2.85b due beyond that. Offsetting this, it had US$25.0m in cash and US$1.10b in receivables that were due within 12 months. So it has liabilities totalling US$2.88b more than its cash and near-term receivables, combined.

When you consider that this deficiency exceeds the company's US$2.72b market capitalization, you might well be inclined to review the balance sheet intently. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

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).

Weak interest cover of 0.30 times and a disturbingly high net debt to EBITDA ratio of 9.1 hit our confidence in BrightSpring Health Services like a one-two punch to the gut. The debt burden here is substantial. Worse, BrightSpring Health Services's EBIT was down 64% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if BrightSpring Health Services can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

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. Considering the last three years, BrightSpring Health Services actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Our View

To be frank both BrightSpring Health Services's interest cover and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. And even its conversion of EBIT to free cash flow fails to inspire much confidence. It's also worth noting that BrightSpring Health Services is in the Healthcare industry, which is often considered to be quite defensive. Taking into account all the aforementioned factors, it looks like BrightSpring Health Services has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. Given the risks around BrightSpring Health Services's use of debt, the sensible thing to do is to check if insiders have been unloading the stock.

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.