These 4 Measures Indicate That TOMY Company (TSE:7867) Is Using Debt Safely

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that TOMY Company, Ltd. (TSE:7867) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for TOMY Company

How Much Debt Does TOMY Company Carry?

As you can see below, TOMY Company had JP¥6.80b of debt at September 2024, down from JP¥26.7b a year prior. However, its balance sheet shows it holds JP¥42.7b in cash, so it actually has JP¥35.9b net cash.

How Strong Is TOMY Company's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that TOMY Company had liabilities of JP¥49.4b due within 12 months and liabilities of JP¥10.1b due beyond that. Offsetting these obligations, it had cash of JP¥42.7b as well as receivables valued at JP¥34.3b due within 12 months. So it can boast JP¥17.6b more liquid assets than total liabilities.

This surplus suggests that TOMY Company has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that TOMY Company has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, TOMY Company grew its EBIT by 53% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine TOMY Company'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. TOMY Company 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, TOMY Company recorded free cash flow worth 77% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that TOMY Company has net cash of JP¥35.9b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 53% over the last year. So we don't think TOMY Company's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in TOMY Company, you may well want to click here to check an interactive graph of its earnings per share history.

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.