These 4 Measures Indicate That Daiei Kankyo (TSE:9336) 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Daiei Kankyo Co., Ltd. (TSE:9336) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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What Risk Does Debt Bring?

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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

How Much Debt Does Daiei Kankyo Carry?

The image below, which you can click on for greater detail, shows that at December 2024 Daiei Kankyo had debt of JP¥69.9b, up from JP¥57.7b in one year. However, it does have JP¥55.5b in cash offsetting this, leading to net debt of about JP¥14.4b.

A Look At Daiei Kankyo's Liabilities

The latest balance sheet data shows that Daiei Kankyo had liabilities of JP¥26.4b due within a year, and liabilities of JP¥63.9b falling due after that. Offsetting these obligations, it had cash of JP¥55.5b as well as receivables valued at JP¥12.1b due within 12 months. So its liabilities total JP¥22.6b more than the combination of its cash and short-term receivables.

Since publicly traded Daiei Kankyo shares are worth a total of JP¥290.3b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

Check out our latest analysis for Daiei Kankyo

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Daiei Kankyo has a low net debt to EBITDA ratio of only 0.53. And its EBIT covers its interest expense a whopping 84.1 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. On the other hand, Daiei Kankyo saw its EBIT drop by 3.1% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Daiei Kankyo's ability to maintain a healthy balance sheet going forward. 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. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, Daiei Kankyo recorded free cash flow of 34% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

The good news is that Daiei Kankyo's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. But, on a more sombre note, we are a little concerned by its conversion of EBIT to free cash flow. All these things considered, it appears that Daiei Kankyo can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Daiei Kankyo's earnings per share history for free.

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.