Does SAKURASAKU PLUSCo.Ltd (TSE:7097) Have A Healthy Balance Sheet?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. Importantly, SAKURASAKU PLUS,Co.,Ltd. (TSE:7097) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for SAKURASAKU PLUSCo.Ltd

What Is SAKURASAKU PLUSCo.Ltd's Net Debt?

The chart below, which you can click on for greater detail, shows that SAKURASAKU PLUSCo.Ltd had JP¥6.82b in debt in April 2024; about the same as the year before. On the flip side, it has JP¥1.08b in cash leading to net debt of about JP¥5.74b.

How Healthy Is SAKURASAKU PLUSCo.Ltd's Balance Sheet?

The latest balance sheet data shows that SAKURASAKU PLUSCo.Ltd had liabilities of JP¥4.40b due within a year, and liabilities of JP¥6.80b falling due after that. On the other hand, it had cash of JP¥1.08b and JP¥2.23b worth of receivables due within a year. So its liabilities total JP¥7.90b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the JP¥3.62b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, SAKURASAKU PLUSCo.Ltd would probably need a major re-capitalization if its creditors were to demand repayment.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

SAKURASAKU PLUSCo.Ltd has a rather high debt to EBITDA ratio of 5.4 which suggests a meaningful debt load. However, its interest coverage of 6.9 is reasonably strong, which is a good sign. Pleasingly, SAKURASAKU PLUSCo.Ltd is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 268% gain in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since SAKURASAKU PLUSCo.Ltd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, SAKURASAKU PLUSCo.Ltd saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, SAKURASAKU PLUSCo.Ltd's conversion of EBIT to free cash flow left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at growing its EBIT; that's encouraging. Overall, it seems to us that SAKURASAKU PLUSCo.Ltd's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. 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. For example SAKURASAKU PLUSCo.Ltd has 4 warning signs (and 2 which are concerning) we think you should know about.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com