We Think SHIKIGAKU (TSE:7049) Can Stay On Top Of Its Debt

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. We can see that SHIKIGAKU. Co., Ltd. (TSE:7049) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for SHIKIGAKU

How Much Debt Does SHIKIGAKU Carry?

You can click the graphic below for the historical numbers, but it shows that SHIKIGAKU had JP¥484.0m of debt in August 2024, down from JP¥810.0m, one year before. But on the other hand it also has JP¥2.42b in cash, leading to a JP¥1.94b net cash position.

How Strong Is SHIKIGAKU's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that SHIKIGAKU had liabilities of JP¥1.42b due within 12 months and liabilities of JP¥195.0m due beyond that. Offsetting this, it had JP¥2.42b in cash and JP¥1.44b in receivables that were due within 12 months. So it can boast JP¥2.25b more liquid assets than total liabilities.

This surplus liquidity suggests that SHIKIGAKU's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that SHIKIGAKU has more cash than debt is arguably a good indication that it can manage its debt safely.

Although SHIKIGAKU made a loss at the EBIT level, last year, it was also good to see that it generated JP¥261m in EBIT over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is SHIKIGAKU's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While SHIKIGAKU 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. Looking at the most recent year, SHIKIGAKU recorded free cash flow of 22% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case SHIKIGAKU has JP¥1.94b in net cash and a decent-looking balance sheet. So is SHIKIGAKU's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for SHIKIGAKU (of which 2 can't be ignored!) you should know about.

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.