David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ It is only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. Above all, Wolters Kluwer AG (AMS: WKL) is in debt. But the most important question is: what risk does this debt create?
When is Debt a Problem?
Generally speaking, debt only becomes a real problem when a company cannot repay it easily, either by raising capital or with its own cash flow. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, debt can be an important tool in businesses, especially capital intensive businesses. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
Check out our latest analysis for Wolters Kluwer
What is Wolters Kluwer’s debt?
The image below, which you can click for more details, shows that in June 2021 Wolters Kluwer had a debt of 3.02 billion euros, up from 2.86 billion euros in a year. However, he also had 951.0 million euros in cash, so his net debt is 2.06 billion euros.
How strong is Wolters Kluwer’s balance sheet?
Zooming in on the latest balance sheet data, we can see that Wolters Kluwer had a liability of 2.89 billion euros due within 12 months and a liability of 3.63 billion euros due beyond. In return, he had € 951.0 million in cash and € 1.33 billion in receivables due within 12 months. It therefore has liabilities totaling 4.24 billion euros more than its combined cash and short-term receivables.
Considering that the listed Wolters Kluwer shares are worth a very impressive total of € 26.8 billion, it seems unlikely that this level of liabilities will be a major threat. However, we think it’s worth keeping an eye on the strength of its balance sheet as it can change over time.
In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). Thus, we look at debt versus earnings with and without amortization expenses.
Wolters Kluwer’s net debt is only 1.5 times its EBITDA. And its EBIT covers its interest costs a whopping 14.0 times. So we’re pretty relaxed about its ultra-conservative use of debt. While Wolters Kluwer doesn’t appear to have gained much on the EBIT line, at least earnings remain stable for now. There is no doubt that we learn the most about debt from the balance sheet. But ultimately, the future profitability of the business will decide whether Wolters Kluwer can strengthen his balance sheet over time. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
Finally, while the IRS may love accounting profits, lenders only accept hard cash. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Over the past three years Wolters Kluwer has recorded free cash flow of 96% of its EBIT, which is higher than what we normally expect. This positions it well to repay debt if it is desirable.
Our point of view
The good news is that Wolters Kluwer’s demonstrated ability to cover his interest costs with his EBIT delights us like a fluffy puppy does a toddler. And the good news does not end there, since its conversion of EBIT into free cash flow also confirms this impression! When we consider the range of factors above, it looks like Wolters Kluwer is being pretty reasonable with his use of debt. While this comes with some risk, it can also improve returns for shareholders. There is no doubt that we learn the most about debt from the balance sheet. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, we discovered 1 warning sign for Wolters Kluwer which you should know before investing here.
If you want to invest in companies that can generate profits without the burden of debt, check out this free list of growing companies that have net cash on the balance sheet.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.