These 4 Measures Indicate That Merit Medical Systems (NASDAQ:MMSI) Is Using Debt Safely

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 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 note that Merit Medical Systems, Inc. (NASDAQ:MMSI) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Merit Medical Systems

How Much Debt Does Merit Medical Systems Carry?

As you can see below, at the end of March 2024, Merit Medical Systems had US$800.1m of debt, up from US$197.7m a year ago. Click the image for more detail. On the flip side, it has US$583.1m in cash leading to net debt of about US$217.1m.

How Healthy Is Merit Medical Systems' Balance Sheet?

According to the last reported balance sheet, Merit Medical Systems had liabilities of US$183.3m due within 12 months, and liabilities of US$902.8m due beyond 12 months. On the other hand, it had cash of US$583.1m and US$192.1m worth of receivables due within a year. So it has liabilities totalling US$311.0m more than its cash and near-term receivables, combined.

Of course, Merit Medical Systems has a market capitalization of US$4.98b, 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Merit Medical Systems has a low net debt to EBITDA ratio of only 0.95. And its EBIT easily covers its interest expense, being 11.4 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Also positive, Merit Medical Systems grew its EBIT by 25% in the last year, and that should make it easier to pay down debt, going forward. 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 Merit Medical Systems 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 we always check how much of that EBIT is translated into free cash flow. During the last three years, Merit Medical Systems generated free cash flow amounting to a very robust 82% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Our View

The good news is that Merit Medical Systems's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its interest cover is also very heartening. We would also note that Medical Equipment industry companies like Merit Medical Systems commonly do use debt without problems. We think Merit Medical Systems is no more beholden to its lenders, than the birds are to birdwatchers. To our minds it has a healthy happy balance sheet. Another factor that would give us confidence in Merit Medical Systems would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com