Is North Industries Group Red Arrow (SZSE:000519) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, North Industries Group Red Arrow Co., Ltd (SZSE:000519) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for North Industries Group Red Arrow

How Much Debt Does North Industries Group Red Arrow Carry?

The image below, which you can click on for greater detail, shows that at September 2023 North Industries Group Red Arrow had debt of CN¥326.2m, up from CN¥170.0m in one year. However, it does have CN¥5.77b in cash offsetting this, leading to net cash of CN¥5.45b.

How Healthy Is North Industries Group Red Arrow's Balance Sheet?

We can see from the most recent balance sheet that North Industries Group Red Arrow had liabilities of CN¥3.79b falling due within a year, and liabilities of CN¥519.4m due beyond that. On the other hand, it had cash of CN¥5.77b and CN¥1.45b worth of receivables due within a year. So it can boast CN¥2.92b more liquid assets than total liabilities.

It's good to see that North Industries Group Red Arrow has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, North Industries Group Red Arrow boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact North Industries Group Red Arrow's saving grace is its low debt levels, because its EBIT has tanked 94% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine North Industries Group Red Arrow'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 company can only pay off debt with cold hard cash, not accounting profits. North Industries Group Red Arrow may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, North Industries Group Red Arrow recorded free cash flow worth a fulsome 88% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case North Industries Group Red Arrow has CN¥5.45b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥378m, being 88% of its EBIT. So we don't think North Industries Group Red Arrow's use of debt is risky. 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. We've identified 2 warning signs with North Industries Group Red Arrow , and understanding them should be part of your investment process.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.