Here's Why NHK Spring (TSE:5991) Can Manage Its Debt Responsibly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, NHK Spring Co., Ltd. (TSE:5991) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for NHK Spring

What Is NHK Spring's Net Debt?

The chart below, which you can click on for greater detail, shows that NHK Spring had JP¥49.7b in debt in March 2024; about the same as the year before. However, it does have JP¥103.2b in cash offsetting this, leading to net cash of JP¥53.5b.

A Look At NHK Spring's Liabilities

Zooming in on the latest balance sheet data, we can see that NHK Spring had liabilities of JP¥182.6b due within 12 months and liabilities of JP¥87.1b due beyond that. On the other hand, it had cash of JP¥103.2b and JP¥165.6b worth of receivables due within a year. So these liquid assets roughly match the total liabilities.

Having regard to NHK Spring's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the JP¥362.2b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, NHK Spring also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also positive, NHK Spring grew its EBIT by 22% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if NHK Spring can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. NHK Spring 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. In the last three years, NHK Spring's free cash flow amounted to 35% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

We could understand if investors are concerned about NHK Spring's liabilities, but we can be reassured by the fact it has has net cash of JP¥53.5b. And it impressed us with its EBIT growth of 22% over the last year. So is NHK Spring's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Be aware that NHK Spring is showing 2 warning signs in our investment analysis , and 1 of those is a bit concerning...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.