Kitagawa SeikiLtd (TSE:6327) Has A Rock Solid Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that Kitagawa Seiki Co.,Ltd. (TSE:6327) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Kitagawa SeikiLtd

How Much Debt Does Kitagawa SeikiLtd Carry?

The image below, which you can click on for greater detail, shows that Kitagawa SeikiLtd had debt of JP¥1.50b at the end of December 2023, a reduction from JP¥1.62b over a year. But it also has JP¥2.72b in cash to offset that, meaning it has JP¥1.22b net cash.

How Strong Is Kitagawa SeikiLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Kitagawa SeikiLtd had liabilities of JP¥3.22b due within 12 months and liabilities of JP¥801.0m due beyond that. On the other hand, it had cash of JP¥2.72b and JP¥1.74b worth of receivables due within a year. So it actually has JP¥435.0m more liquid assets than total liabilities.

This surplus suggests that Kitagawa SeikiLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Kitagawa SeikiLtd 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 Kitagawa SeikiLtd has boosted its EBIT by 88%, thus reducing the spectre of future debt repayments. 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 Kitagawa SeikiLtd can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Kitagawa SeikiLtd 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 last three years, Kitagawa SeikiLtd recorded free cash flow worth a fulsome 98% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Kitagawa SeikiLtd has net cash of JP¥1.22b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of JP¥736m, being 98% of its EBIT. So is Kitagawa SeikiLtd's debt a risk? It doesn't seem so to us. 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. Case in point: We've spotted 3 warning signs for Kitagawa SeikiLtd you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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.