Here's Why Certara (NASDAQ:CERT) Can Manage Its Debt Responsibly

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.' 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. As with many other companies Certara, Inc. (NASDAQ:CERT) 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Certara

How Much Debt Does Certara Carry?

The chart below, which you can click on for greater detail, shows that Certara had US$296.1m in debt in September 2024; about the same as the year before. However, it also had US$235.4m in cash, and so its net debt is US$60.6m.

How Healthy Is Certara's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Certara had liabilities of US$122.7m due within 12 months and liabilities of US$367.1m due beyond that. Offsetting this, it had US$235.4m in cash and US$106.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$148.1m.

Of course, Certara has a market capitalization of US$1.99b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Given net debt is only 0.77 times EBITDA, it is initially surprising to see that Certara's EBIT has low interest coverage of 0.69 times. So while we're not necessarily alarmed we think that its debt is far from trivial. Shareholders should be aware that Certara's EBIT was down 66% 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. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Certara 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 clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Certara actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

We weren't impressed with Certara's interest cover, and its EBIT growth rate made us cautious. But its conversion of EBIT to free cash flow was significantly redeeming. It's also worth noting that Certara is in the Healthcare Services industry, which is often considered to be quite defensive. Considering this range of data points, we think Certara is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. Even though Certara lost money on the bottom line, its positive EBIT suggests the business itself has potential. So you might want to check out how earnings have been trending over the last few years.

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.