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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, JAIC Co.,Ltd. (TSE:7073) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.
View our latest analysis for JAICLtd
What Is JAICLtd's Net Debt?
The image below, which you can click on for greater detail, shows that JAICLtd had debt of JP¥872.0m at the end of April 2024, a reduction from JP¥1.21b over a year. But on the other hand it also has JP¥998.0m in cash, leading to a JP¥126.0m net cash position.
A Look At JAICLtd's Liabilities
Zooming in on the latest balance sheet data, we can see that JAICLtd had liabilities of JP¥830.0m due within 12 months and liabilities of JP¥777.0m due beyond that. On the other hand, it had cash of JP¥998.0m and JP¥372.0m worth of receivables due within a year. So its liabilities total JP¥237.0m more than the combination of its cash and short-term receivables.
Of course, JAICLtd has a market capitalization of JP¥2.18b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, JAICLtd boasts net cash, so it's fair to say it does not have a heavy debt load!
Shareholders should be aware that JAICLtd's EBIT was down 98% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But it is JAICLtd's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. JAICLtd 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. Happily for any shareholders, JAICLtd actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.
Summing Up
Although JAICLtd'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¥126.0m. The cherry on top was that in converted 110% of that EBIT to free cash flow, bringing in JP¥96m. So we are not troubled with JAICLtd's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 2 warning signs we've spotted with JAICLtd (including 1 which is a bit concerning) .
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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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.
About TSE:7073
Excellent balance sheet with questionable track record.
