These 4 measures indicate that RHÖN-KLINIKUM (ETR:RHK) is using its debt reasonably well

David Iben said it well when he said: “Volatility is not a risk that interests us. What matters to us is to avoid the permanent loss of capital. When we think of a company’s risk, we always like to look at its use of debt, because over-indebtedness can lead to ruin. Like many other companies RHÖN-KLINIKUM Aktiengesellschaft (ETR: RHK) uses debt. But the real question is whether this debt makes the business risky.

Why is debt risky?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is when a company has to dilute shareholders at a cheap share price just to keep debt under control. That said, the most common situation is when a company manages its debt reasonably well – and to its own benefit. The first thing to do when considering how much debt a business has is to look at its cash and debt together.

Check out our latest review for RHÖN-KLINIKUM

What is RHÖN-KLINIKUM’s net debt?

The graph below, which you can click on for more details, shows that RHÖN-KLINIKUM had a debt of 151.1 million euros in June 2022; about the same as the previous year. However, because it has a cash reserve of €99.4 million, its net debt is lower, at around €51.7 million.

XTRA: RHK Debt to Equity History September 20, 2022

What is the state of RHÖN-KLINIKUM’s balance sheet?

According to the last published balance sheet, RHÖN-KLINIKUM had liabilities of 284.9 million euros at less than 12 months and liabilities of 168.9 million euros at more than 12 months. In return for these bonds, it had cash of €99.4 million as well as receivables worth €237.0 million maturing in less than 12 months. Its liabilities therefore total €117.5 million more than the combination of its cash and short-term receivables.

Given that publicly traded RHÖN-KLINIKUM shares are worth a total of €870.2 million, it seems unlikely that this level of liability is a major threat. That said, it is clear that we must continue to monitor its record, lest it deteriorate.

We measure a company’s leverage against its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT ) covers its interest charge (interest coverage). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.

With a net debt of only 0.53 times EBITDA, RHÖN-KLINIKUM is arguably quite conservative. And this view is supported by strong interest coverage, with EBIT amounting to 8.2 times interest expense over the past year. In addition, RHÖN-KLINIKUM has increased its EBIT by 87% over the last twelve months, and this growth will facilitate its debt management. There is no doubt that we learn the most about debt from the balance sheet. But it is future earnings, more than anything, that will determine RHÖN-KLINIKUM’s ability to maintain a healthy balance sheet in the future. So if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.

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, RHÖN-KLINIKUM’s free cash flow amounted to 21% of its EBIT, less than expected. It’s not great when it comes to paying off debt.

Our point of view

The good news is that RHÖN-KLINIKUM’s demonstrated ability to increase EBIT delights us like a fluffy puppy does a toddler. But, on a darker note, we are a bit concerned about its conversion of EBIT into free cash flow. It should also be noted that RHÖN-KLINIKUM belongs to the healthcare sector, which is often seen as rather defensive. When we consider the range of factors above, it seems that RHÖN-KLINIKUM is quite sensible with its use of debt. While this carries some risk, it can also improve shareholder returns. Over time, stock prices tend to follow earnings per share, so if you are interested in RHÖN-KLINIKUM, you may want to click here for an interactive graph of its earnings per share history.

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.

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.

Valuation is complex, but we help make it simple.

Find out if RHÖN-KLINIKUM is potentially overvalued or undervalued by viewing our full analysis, which includes fair value estimates, risks and warnings, dividends, insider trading and financial health.

See the free analysis