We Think COSMOS Pharmaceutical (TSE:3349) 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.' 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 can see that COSMOS Pharmaceutical Corporation (TSE:3349) does use debt in its business. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for COSMOS Pharmaceutical

What Is COSMOS Pharmaceutical's Net Debt?

As you can see below, at the end of February 2024, COSMOS Pharmaceutical had JP¥10.7b of debt, up from JP¥6.32b a year ago. Click the image for more detail. However, it does have JP¥18.5b in cash offsetting this, leading to net cash of JP¥7.75b.

How Healthy Is COSMOS Pharmaceutical's Balance Sheet?

According to the last reported balance sheet, COSMOS Pharmaceutical had liabilities of JP¥189.5b due within 12 months, and liabilities of JP¥16.4b due beyond 12 months. On the other hand, it had cash of JP¥18.5b and JP¥567.0m worth of receivables due within a year. So it has liabilities totalling JP¥186.9b more than its cash and near-term receivables, combined.

COSMOS Pharmaceutical has a market capitalization of JP¥517.0b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, COSMOS Pharmaceutical boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, COSMOS Pharmaceutical grew its EBIT by 5.4% in the last year, making that debt load look even more manageable. 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 COSMOS Pharmaceutical's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While COSMOS Pharmaceutical 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. Considering the last three years, COSMOS Pharmaceutical actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

Although COSMOS Pharmaceutical's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of JP¥7.75b. And it also grew its EBIT by 5.4% over the last year. So we are not troubled with COSMOS Pharmaceutical's debt use. 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 COSMOS Pharmaceutical's earnings per share history for free.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.