Does Nippon Carbon (TSE:5302) Have A Healthy Balance Sheet?

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. As with many other companies Nippon Carbon Co., Ltd. (TSE:5302) makes use of debt. 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. 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. 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.

See our latest analysis for Nippon Carbon

What Is Nippon Carbon's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Nippon Carbon had JP¥8.81b of debt in March 2024, down from JP¥9.26b, one year before. However, it does have JP¥13.0b in cash offsetting this, leading to net cash of JP¥4.23b.

A Look At Nippon Carbon's Liabilities

Zooming in on the latest balance sheet data, we can see that Nippon Carbon had liabilities of JP¥18.2b due within 12 months and liabilities of JP¥3.33b due beyond that. Offsetting this, it had JP¥13.0b in cash and JP¥12.7b in receivables that were due within 12 months. So it actually has JP¥4.21b more liquid assets than total liabilities.

This short term liquidity is a sign that Nippon Carbon could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Nippon Carbon has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Nippon Carbon has boosted its EBIT by 39%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Nippon Carbon 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Nippon Carbon 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, Nippon Carbon recorded free cash flow worth 53% 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

While we empathize with investors who find debt concerning, you should keep in mind that Nippon Carbon has net cash of JP¥4.23b, as well as more liquid assets than liabilities. And we liked the look of last year's 39% year-on-year EBIT growth. So we don't think Nippon Carbon'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. Be aware that Nippon Carbon is showing 1 warning sign in our investment analysis , 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.

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