Toyoda Gosei (TSE:7282) Seems To Use Debt Quite Sensibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 Toyoda Gosei Co., Ltd. (TSE:7282) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Toyoda Gosei

What Is Toyoda Gosei's Debt?

The image below, which you can click on for greater detail, shows that Toyoda Gosei had debt of JP¥131.5b at the end of December 2024, a reduction from JP¥139.5b over a year. But it also has JP¥158.7b in cash to offset that, meaning it has JP¥27.2b net cash.

How Healthy Is Toyoda Gosei's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Toyoda Gosei had liabilities of JP¥204.7b due within 12 months and liabilities of JP¥148.0b due beyond that. Offsetting this, it had JP¥158.7b in cash and JP¥180.2b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥13.8b.

Of course, Toyoda Gosei has a market capitalization of JP¥340.3b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Toyoda Gosei also has more cash than debt, so we're pretty confident it can manage its debt safely.

On the other hand, Toyoda Gosei's EBIT dived 17%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Toyoda Gosei can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Toyoda Gosei has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Toyoda Gosei recorded free cash flow worth 67% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

We could understand if investors are concerned about Toyoda Gosei's liabilities, but we can be reassured by the fact it has has net cash of JP¥27.2b. And it impressed us with free cash flow of JP¥43b, being 67% of its EBIT. So we don't have any problem with Toyoda Gosei's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Toyoda Gosei you should know about.

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.

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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.