Here's Why TWOSTONE&Sons (TSE:7352) Can Manage Its Debt Responsibly

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, TWOSTONE&Sons Inc. (TSE:7352) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.

Check out our latest analysis for TWOSTONE&Sons

How Much Debt Does TWOSTONE&Sons Carry?

The image below, which you can click on for greater detail, shows that at May 2024 TWOSTONE&Sons had debt of JP¥2.10b, up from JP¥1.22b in one year. But it also has JP¥3.25b in cash to offset that, meaning it has JP¥1.15b net cash.

How Strong Is TWOSTONE&Sons' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that TWOSTONE&Sons had liabilities of JP¥2.37b due within 12 months and liabilities of JP¥1.54b due beyond that. On the other hand, it had cash of JP¥3.25b and JP¥1.91b worth of receivables due within a year. So it can boast JP¥1.25b more liquid assets than total liabilities.

This surplus suggests that TWOSTONE&Sons has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, TWOSTONE&Sons boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that TWOSTONE&Sons's load is not too heavy, because its EBIT was down 43% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 TWOSTONE&Sons 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While TWOSTONE&Sons 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 three years, TWOSTONE&Sons recorded free cash flow of 43% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that TWOSTONE&Sons has net cash of JP¥1.15b, as well as more liquid assets than liabilities. So we don't have any problem with TWOSTONE&Sons's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example TWOSTONE&Sons has 4 warning signs (and 1 which is a bit concerning) we think you should know about.

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.

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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.