We Think Nippon Dry-Chemical (TSE:1909) Can Stay On Top Of Its Debt

Warren Buffett famously said, '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. Importantly, Nippon Dry-Chemical Co., Ltd. (TSE:1909) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Nippon Dry-Chemical

What Is Nippon Dry-Chemical's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Nippon Dry-Chemical had JP¥5.68b of debt in June 2024, down from JP¥6.86b, one year before. However, its balance sheet shows it holds JP¥9.69b in cash, so it actually has JP¥4.01b net cash.

How Healthy Is Nippon Dry-Chemical's Balance Sheet?

According to the last reported balance sheet, Nippon Dry-Chemical had liabilities of JP¥15.7b due within 12 months, and liabilities of JP¥4.40b due beyond 12 months. Offsetting this, it had JP¥9.69b in cash and JP¥16.5b in receivables that were due within 12 months. So it actually has JP¥6.08b more liquid assets than total liabilities.

This excess liquidity is a great indication that Nippon Dry-Chemical's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, Nippon Dry-Chemical boasts net cash, so it's fair to say it does not have a heavy debt load!

And we also note warmly that Nippon Dry-Chemical grew its EBIT by 16% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Nippon Dry-Chemical's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Nippon Dry-Chemical 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. In the last three years, Nippon Dry-Chemical created free cash flow amounting to 13% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Nippon Dry-Chemical has JP¥4.01b in net cash and a decent-looking balance sheet. And we liked the look of last year's 16% year-on-year EBIT growth. So we don't think Nippon Dry-Chemical's use of debt is risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Nippon Dry-Chemical you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.