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. We can see that Sagami Holdings Corporation (TSE:9900) does use debt in its business. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Sagami Holdings
How Much Debt Does Sagami Holdings Carry?
You can click the graphic below for the historical numbers, but it shows that Sagami Holdings had JPĀ„2.72b of debt in March 2024, down from JPĀ„3.84b, one year before. However, it does have JPĀ„8.01b in cash offsetting this, leading to net cash of JPĀ„5.30b.
How Strong Is Sagami Holdings' Balance Sheet?
We can see from the most recent balance sheet that Sagami Holdings had liabilities of JPĀ„5.29b falling due within a year, and liabilities of JPĀ„2.84b due beyond that. On the other hand, it had cash of JPĀ„8.01b and JPĀ„1.04b worth of receivables due within a year. So it actually has JPĀ„920.0m more liquid assets than total liabilities.
This surplus suggests that Sagami Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Sagami Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.
In addition to that, we're happy to report that Sagami Holdings has boosted its EBIT by 88%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Sagami Holdings will need earnings to service that debt. 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, a company can only pay off debt with cold hard cash, not accounting profits. While Sagami Holdings 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. In the last two years, Sagami Holdings's free cash flow amounted to 38% of its EBIT, less 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 Sagami Holdings has net cash of JPĀ„5.30b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 88% over the last year. So we don't think Sagami Holdings's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Sagami Holdings 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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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.
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About TSE:9900
Sagami Holdings
Operates a chain of Japanese cuisine/noodle restaurants in Japan, Vietnam, and Italy.
Excellent balance sheet with proven track record.
