Takuma (TSE:6013) Has A Pretty Healthy Balance Sheet

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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, Takuma Co., Ltd. (TSE:6013) does carry debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Takuma

What Is Takuma's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Takuma had JP¥753.0m of debt, an increase on JP¥220.0m, over one year. But on the other hand it also has JP¥45.3b in cash, leading to a JP¥44.6b net cash position.

How Healthy Is Takuma's Balance Sheet?

According to the last reported balance sheet, Takuma had liabilities of JP¥68.2b due within 12 months, and liabilities of JP¥12.0b due beyond 12 months. Offsetting these obligations, it had cash of JP¥45.3b as well as receivables valued at JP¥32.7b due within 12 months. So its liabilities total JP¥2.13b more than the combination of its cash and short-term receivables.

Having regard to Takuma'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¥137.4b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Takuma also has more cash than debt, so we're pretty confident it can manage its debt safely.

The modesty of its debt load may become crucial for Takuma if management cannot prevent a repeat of the 26% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Takuma'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Takuma 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, Takuma's free cash flow amounted to 47% 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 Takuma's liabilities, but we can be reassured by the fact it has has net cash of JP¥44.6b. So we don't have any problem with Takuma'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. For example Takuma has 2 warning signs (and 1 which shouldn't be ignored) we think 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.

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.

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