Stock Analysis

Does Tenet Healthcare (NYSE:THC) Have A Healthy Balance Sheet?

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NYSE:THC
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Warren Buffett famously said, '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 Tenet Healthcare Corporation (NYSE:THC) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

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What Is Tenet Healthcare's Net Debt?

The image below, which you can click on for greater detail, shows that Tenet Healthcare had debt of US$13.8b at the end of September 2021, a reduction from US$15.3b over a year. However, because it has a cash reserve of US$2.29b, its net debt is less, at about US$11.5b.

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NYSE:THC Debt to Equity History November 26th 2021

How Healthy Is Tenet Healthcare's Balance Sheet?

The latest balance sheet data shows that Tenet Healthcare had liabilities of US$5.38b due within a year, and liabilities of US$16.9b falling due after that. Offsetting these obligations, it had cash of US$2.29b as well as receivables valued at US$3.24b due within 12 months. So its liabilities total US$16.7b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the US$8.38b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Tenet Healthcare would likely require a major re-capitalisation if it had to pay its creditors today.

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.

Tenet Healthcare's debt is 3.3 times its EBITDA, and its EBIT cover its interest expense 2.7 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Looking on the bright side, Tenet Healthcare boosted its EBIT by a silky 68% in the last year. Like a mother's loving embrace of a newborn that sort of growth builds resilience, putting the company in a stronger position to manage its debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Tenet Healthcare's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, Tenet Healthcare recorded free cash flow worth 71% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

While Tenet Healthcare's level of total liabilities has us nervous. For example, its EBIT growth rate and conversion of EBIT to free cash flow give us some confidence in its ability to manage its debt. It's also worth noting that Tenet Healthcare is in the Healthcare industry, which is often considered to be quite defensive. We think that Tenet Healthcare'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. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Tenet Healthcare (2 are concerning) you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

What are the risks and opportunities for Tenet Healthcare?

Tenet Healthcare Corporation operates as a diversified healthcare services company.

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Rewards

  • Trading at 22.3% below our estimate of its fair value

  • Earnings are forecast to grow 15.44% per year

Risks

  • Interest payments are not well covered by earnings

  • Significant insider selling over the past 3 months

  • Profit margins (2.9%) are lower than last year (5.5%)

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