Keihan Holdings (TSE:9045) Takes On Some Risk With Its Use Of Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. As with many other companies Keihan Holdings Co., Ltd. (TSE:9045) makes use of debt. But the real question is whether this debt is making the company risky.

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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. 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. 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 examine debt levels, we first consider both cash and debt levels, together.

How Much Debt Does Keihan Holdings Carry?

The image below, which you can click on for greater detail, shows that at March 2025 Keihan Holdings had debt of JP¥371.2b, up from JP¥338.3b in one year. On the flip side, it has JP¥15.8b in cash leading to net debt of about JP¥355.4b.

A Look At Keihan Holdings' Liabilities

The latest balance sheet data shows that Keihan Holdings had liabilities of JP¥182.8b due within a year, and liabilities of JP¥362.5b falling due after that. On the other hand, it had cash of JP¥15.8b and JP¥34.9b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥494.6b.

This deficit casts a shadow over the JP¥320.0b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Keihan Holdings would likely require a major re-capitalisation if it had to pay its creditors today.

View our latest analysis for Keihan Holdings

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Strangely Keihan Holdings has a sky high EBITDA ratio of 5.5, implying high debt, but a strong interest coverage of 25.4. This means that unless the company has access to very cheap debt, that interest expense will likely grow in the future. We note that Keihan Holdings grew its EBIT by 24% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Keihan Holdings 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Keihan Holdings recorded negative free cash flow, in total. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Our View

To be frank both Keihan Holdings's conversion of EBIT to free cash flow and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least it's pretty decent at covering its interest expense with its EBIT; that's encouraging. Overall, we think it's fair to say that Keihan Holdings has enough debt that there are some real risks around the balance sheet. If all goes well, that should boost returns, but on the flip side, the risk of permanent capital loss is elevated by the debt. 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. For example, we've discovered 2 warning signs for Keihan Holdings (1 is concerning!) that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.