Here's Why Tenet Healthcare (NYSE:THC) Has A Meaningful Debt Burden

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Tenet Healthcare Corporation (NYSE:THC) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. 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 Tenet Healthcare

What Is Tenet Healthcare's Debt?

As you can see below, Tenet Healthcare had US$12.6b of debt at June 2024, down from US$14.6b a year prior. However, it also had US$2.88b in cash, and so its net debt is US$9.68b.

How Strong Is Tenet Healthcare's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Tenet Healthcare had liabilities of US$5.49b due within 12 months and liabilities of US$15.9b due beyond that. On the other hand, it had cash of US$2.88b and US$3.89b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$14.6b.

Given this deficit is actually higher than the company's massive market capitalization of US$14.4b, we think shareholders really should watch Tenet Healthcare's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). 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).

Tenet Healthcare's net debt is sitting at a very reasonable 2.5 times its EBITDA, while its EBIT covered its interest expense just 3.5 times last year. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. One way Tenet Healthcare could vanquish its debt would be if it stops borrowing more but continues to grow EBIT at around 17%, as it did over the last year. 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 want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, Tenet Healthcare recorded free cash flow of 40% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

Neither Tenet Healthcare's ability to handle its total liabilities nor its interest cover gave us confidence in its ability to take on more debt. But it seems to be able to grow its EBIT without much trouble. We should also note that Healthcare industry companies like Tenet Healthcare commonly do use debt without problems. Taking the abovementioned factors together we do think Tenet Healthcare's debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 4 warning signs for Tenet Healthcare (1 is significant!) that you should be aware of before investing here.

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.