These 4 Measures Indicate That Makino Milling Machine (TSE:6135) Is Using Debt Reasonably Well

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.' 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. We note that Makino Milling Machine Co., Ltd. (TSE:6135) does have debt on its balance sheet. 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. If things get really bad, the lenders can take control of the business. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Makino Milling Machine

What Is Makino Milling Machine's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Makino Milling Machine had JP¥52.3b of debt in December 2023, down from JP¥56.0b, one year before. But it also has JP¥67.9b in cash to offset that, meaning it has JP¥15.7b net cash.

A Look At Makino Milling Machine's Liabilities

Zooming in on the latest balance sheet data, we can see that Makino Milling Machine had liabilities of JP¥80.2b due within 12 months and liabilities of JP¥58.1b due beyond that. On the other hand, it had cash of JP¥67.9b and JP¥42.7b worth of receivables due within a year. So it has liabilities totalling JP¥27.6b more than its cash and near-term receivables, combined.

Given Makino Milling Machine has a market capitalization of JP¥145.6b, it's hard to believe these liabilities pose much 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, Makino Milling Machine also has more cash than debt, so we're pretty confident it can manage its debt safely.

Makino Milling Machine's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Makino Milling Machine'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. Makino Milling Machine may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. In the last three years, Makino Milling Machine created free cash flow amounting to 15% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

Although Makino Milling Machine'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¥15.7b. So we don't have any problem with Makino Milling Machine'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, we've discovered 1 warning sign for Makino Milling Machine that you should be aware of before investing here.

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.