We Think Sekisui Chemical (TSE:4204) Can Stay On Top Of Its Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We can see that Sekisui Chemical Co., Ltd. (TSE:4204) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Sekisui Chemical

What Is Sekisui Chemical's Debt?

The image below, which you can click on for greater detail, shows that Sekisui Chemical had debt of JP¥89.3b at the end of December 2024, a reduction from JP¥98.4b over a year. But on the other hand it also has JP¥122.3b in cash, leading to a JP¥33.1b net cash position.

A Look At Sekisui Chemical's Liabilities

The latest balance sheet data shows that Sekisui Chemical had liabilities of JP¥330.4b due within a year, and liabilities of JP¥156.7b falling due after that. Offsetting these obligations, it had cash of JP¥122.3b as well as receivables valued at JP¥209.2b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥155.6b.

Since publicly traded Sekisui Chemical shares are worth a total of JP¥1.06t, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Sekisui Chemical also has more cash than debt, so we're pretty confident it can manage its debt safely.

And we also note warmly that Sekisui Chemical grew its EBIT by 11% last year, making its debt load easier to handle. 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 Sekisui Chemical 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 Sekisui 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, Sekisui Chemical's free cash flow amounted to 36% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

Although Sekisui Chemical's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of JP¥33.1b. On top of that, it increased its EBIT by 11% in the last twelve months. So we are not troubled with Sekisui Chemical's debt use. 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. Case in point: We've spotted 1 warning sign for Sekisui Chemical you should be aware of.

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.