We Think Kyoritsu Maintenance (TSE:9616) Can Stay On Top Of Its Debt

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. Importantly, Kyoritsu Maintenance Co., Ltd. (TSE:9616) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Kyoritsu Maintenance

What Is Kyoritsu Maintenance's Debt?

As you can see below, at the end of December 2023, Kyoritsu Maintenance had JP¥141.8b of debt, up from JP¥130.3b a year ago. Click the image for more detail. On the flip side, it has JP¥38.9b in cash leading to net debt of about JP¥102.9b.

A Look At Kyoritsu Maintenance's Liabilities

The latest balance sheet data shows that Kyoritsu Maintenance had liabilities of JP¥63.9b due within a year, and liabilities of JP¥117.3b falling due after that. Offsetting these obligations, it had cash of JP¥38.9b as well as receivables valued at JP¥16.3b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥125.9b.

This deficit isn't so bad because Kyoritsu Maintenance is worth JP¥240.6b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Kyoritsu Maintenance has a debt to EBITDA ratio of 4.9, which signals significant debt, but is still pretty reasonable for most types of business. But its EBIT was about 37.4 times its interest expense, implying the company isn't really paying a high cost to maintain that level of debt. Even were the low cost to prove unsustainable, that is a good sign. Kyoritsu Maintenance grew its EBIT by 4.3% in the last year. That's far from incredible but it is a good thing, when it comes to paying off debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Kyoritsu Maintenance can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last two years, Kyoritsu Maintenance produced sturdy free cash flow equating to 51% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

On our analysis Kyoritsu Maintenance's interest cover should signal that it won't have too much trouble with its debt. But the other factors we noted above weren't so encouraging. In particular, net debt to EBITDA gives us cold feet. Looking at all this data makes us feel a little cautious about Kyoritsu Maintenance's debt levels. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. 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. For example - Kyoritsu Maintenance has 1 warning sign we think you should be aware of.

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.

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

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.