These 4 Measures Indicate That Adventure (TSE:6030) Is Using Debt Reasonably Well

Warren Buffett famously said, '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. As with many other companies Adventure, Inc. (TSE:6030) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 Adventure

How Much Debt Does Adventure Carry?

The image below, which you can click on for greater detail, shows that at June 2024 Adventure had debt of JP¥7.57b, up from JP¥2.95b in one year. However, its balance sheet shows it holds JP¥17.0b in cash, so it actually has JP¥9.44b net cash.

How Healthy Is Adventure's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Adventure had liabilities of JP¥10.2b due within 12 months and liabilities of JP¥7.48b due beyond that. On the other hand, it had cash of JP¥17.0b and JP¥4.69b worth of receivables due within a year. So it actually has JP¥4.04b more liquid assets than total liabilities.

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

The modesty of its debt load may become crucial for Adventure if management cannot prevent a repeat of the 45% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Adventure'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Adventure 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. Over the last three years, Adventure actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While it is always sensible to investigate a company's debt, in this case Adventure has JP¥9.44b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥769m, being 104% of its EBIT. So we are not troubled with Adventure's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Adventure (at least 1 which shouldn't be ignored) , and understanding them should be part of your investment process.

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.