Is Niraku GC Holdings (HKG:1245) Using Debt In A Risky Way?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Niraku GC Holdings, Inc. (HKG:1245) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 Niraku GC Holdings

What Is Niraku GC Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that Niraku GC Holdings had debt of JP¥11.6b at the end of September 2021, a reduction from JP¥16.7b over a year. However, it does have JP¥11.4b in cash offsetting this, leading to net debt of about JP¥275.0m.

A Look At Niraku GC Holdings' Liabilities

We can see from the most recent balance sheet that Niraku GC Holdings had liabilities of JP¥11.1b falling due within a year, and liabilities of JP¥38.5b due beyond that. Offsetting this, it had JP¥11.4b in cash and JP¥303.0m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥38.0b.

The deficiency here weighs heavily on the JP¥4.52b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Niraku GC Holdings would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Niraku GC Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Niraku GC Holdings made a loss at the EBIT level, and saw its revenue drop to JP¥21b, which is a fall of 4.4%. That's not what we would hope to see.

Caveat Emptor

Importantly, Niraku GC Holdings had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at JP¥35m. When you combine this with the very significant balance sheet liabilities mentioned above, we are so wary of it that we are basically at a loss for the right words. Sure, the company might have a nice story about how they are going on to a brighter future. But the reality is that it is low on liquid assets relative to liabilities, and it lost JP¥2.6b in the last year. So we're not very excited about owning this stock. Its too risky for us. 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. Be aware that Niraku GC Holdings is showing 3 warning signs in our investment analysis , and 1 of those is a bit unpleasant...

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.