Legendary fund manager Li Lu (whom Charlie Munger once backed) once said, “The greatest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital. It’s natural to consider a company’s balance sheet when looking at its riskiness, as debt is often involved when a company fails. Above all, Boston Scientific Society (NYSE:BSX) is in debt. But the real question is whether this debt makes the business risky.
What risk does debt carry?
Generally speaking, debt only becomes a real problem when a company cannot easily repay it, either by raising capital or with its own cash flow. If things go really bad, lenders can take over the business. Although not too common, we often see companies in debt permanently diluting their shareholders because lenders force them to raise capital at a ridiculous price. By replacing dilution, however, debt can be a great tool for companies that need capital to invest in growth at high rates of return. When we look at debt levels, we first consider cash and debt levels, together.
Check out our latest insights for Boston Scientific
What is Boston Scientific’s net debt?
As you can see below, Boston Scientific had $8.97 billion in debt as of June 2022, about the same as the year before. You can click on the graph for more details. However, he has $276.0 million in cash to offset this, resulting in a net debt of approximately $8.69 billion.
A Look at Boston Scientific’s Responsibilities
We can see from the most recent balance sheet that Boston Scientific had liabilities of US$3.88 billion due in one year, and liabilities of US$11.1 billion due beyond. On the other hand, it had cash of $276.0 million and $1.92 billion in receivables within one year. Thus, its liabilities total $12.7 billion more than the combination of its cash and short-term receivables.
While that might sound like a lot, it’s not too bad since Boston Scientific has a huge market capitalization of US$60.2 billion, so it could probably bolster its balance sheet by raising capital if needed. However, it is always worth taking a close look at your ability to repay debt.
We use two main ratios to inform us about debt to earnings levels. The first is net debt divided by earnings before interest, taxes, depreciation and amortization (EBITDA), while the second is how often its earnings before interest and taxes (EBIT) covers its interest expense (or its interests, for short). The advantage of this approach is that we consider both the absolute amount of debt (with net debt to EBITDA) and the actual interest expense associated with that debt (with its interest coverage ratio ).
Boston Scientific’s debt is 2.7 times its EBITDA, and its EBIT covers its interest expense 4.2 times. Taken together, this implies that, while we wouldn’t like to see debt levels increase, we think he can manage his current leverage. On a slightly more positive note, Boston Scientific increased its EBIT by 18% over last year, further increasing its ability to manage debt. There is no doubt that we learn the most about debt from the balance sheet. But ultimately, the company’s future profitability will decide whether Boston Scientific can strengthen its balance sheet over time. So if you are focused on the future, you can check out this free report showing analyst earnings forecast.
But our last consideration is also important, because a company cannot pay debt with paper profits; he needs cash. It is therefore worth checking how much of this EBIT is supported by free cash flow. Over the past three years, Boston Scientific has had free cash flow of 71% of its EBIT, which is about normal, given that free cash flow excludes interest and taxes. This free cash flow puts the company in a good position to repay its debt, should it arise.
Our point of view
Fortunately, Boston Scientific’s impressive EBIT to free cash flow conversion means it has the upper hand on its debt. But, on a darker note, we’re a bit concerned about its interest coverage. It should also be noted that Boston Scientific is in the medical device industry, which is often seen as quite defensive. When we consider the range of factors above, it appears that Boston Scientific is quite sensitive with its use of debt. This means they take on a bit more risk, hoping to increase shareholder returns. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks reside on the balance sheet, far from it. These risks can be difficult to spot. Every business has them, and we’ve spotted 3 warning signs for Boston Scientific (of which 1 is significant!) that you should know.
If, after all that, you’re more interested in a fast-growing company with a strong balance sheet, check out our list of cash-flowing growth stocks without further ado.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.
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