These 4 Measures Indicate That Izu Shaboten ResortLtd (TYO:6819) Is Using Debt Reasonably Well

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Izu Shaboten Resort Co.,Ltd (TYO:6819) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

View our latest analysis for Izu Shaboten ResortLtd

What Is Izu Shaboten ResortLtd's Debt?

The image below, which you can click on for greater detail, shows that at December 2020 Izu Shaboten ResortLtd had debt of JP¥320.0m, up from none in one year. However, its balance sheet shows it holds JP¥1.16b in cash, so it actually has JP¥844.0m net cash.

A Look At Izu Shaboten ResortLtd's Liabilities

According to the last reported balance sheet, Izu Shaboten ResortLtd had liabilities of JP¥345.0m due within 12 months, and liabilities of JP¥607.0m due beyond 12 months. Offsetting these obligations, it had cash of JP¥1.16b as well as receivables valued at JP¥114.0m due within 12 months. So it can boast JP¥326.0m more liquid assets than total liabilities.

This short term liquidity is a sign that Izu Shaboten ResortLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Izu Shaboten ResortLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Izu Shaboten ResortLtd's load is not too heavy, because its EBIT was down 45% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is Izu Shaboten ResortLtd's earnings that will influence how the balance sheet holds up in the future. 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Izu Shaboten ResortLtd 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. Looking at the most recent three years, Izu Shaboten ResortLtd recorded free cash flow of 33% 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 Izu Shaboten ResortLtd has net cash of JP¥844.0m, as well as more liquid assets than liabilities. So we are not troubled with Izu Shaboten ResortLtd's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Izu Shaboten ResortLtd is showing 2 warning signs in our investment analysis , you should know about...

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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