Endo Manufacturing (TSE:7841) 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.' 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 Endo Manufacturing Co., Ltd. (TSE:7841) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Endo Manufacturing

What Is Endo Manufacturing's Debt?

The image below, which you can click on for greater detail, shows that Endo Manufacturing had debt of JP¥250.0m at the end of March 2024, a reduction from JP¥350.0m over a year. However, it does have JP¥8.51b in cash offsetting this, leading to net cash of JP¥8.26b.

How Healthy Is Endo Manufacturing's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Endo Manufacturing had liabilities of JP¥2.73b due within 12 months and liabilities of JP¥1.16b due beyond that. On the other hand, it had cash of JP¥8.51b and JP¥3.71b worth of receivables due within a year. So it can boast JP¥8.34b more liquid assets than total liabilities.

This excess liquidity is a great indication that Endo Manufacturing's balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Succinctly put, Endo Manufacturing boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Endo Manufacturing's EBIT dived 11%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Endo Manufacturing will need earnings to service that debt. 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Endo Manufacturing may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Endo Manufacturing recorded free cash flow worth 70% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to investigate a company's debt, in this case Endo Manufacturing has JP¥8.26b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥1.6b, being 70% of its EBIT. So we don't think Endo Manufacturing's use of debt is risky. 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 2 warning signs for Endo Manufacturing (of which 1 is significant!) 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com