Kewpie (TSE:2809) Could Easily Take On More Debt

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.' 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. We can see that Kewpie Corporation (TSE:2809) does use debt in its business. But should shareholders be worried about its use of debt?

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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Kewpie

What Is Kewpie's Debt?

You can click the graphic below for the historical numbers, but it shows that Kewpie had JP¥17.7b of debt in August 2024, down from JP¥29.4b, one year before. However, its balance sheet shows it holds JP¥86.5b in cash, so it actually has JP¥68.8b net cash.

How Healthy Is Kewpie's Balance Sheet?

According to the last reported balance sheet, Kewpie had liabilities of JP¥90.1b due within 12 months, and liabilities of JP¥37.7b due beyond 12 months. Offsetting these obligations, it had cash of JP¥86.5b as well as receivables valued at JP¥72.7b due within 12 months. So it actually has JP¥31.5b more liquid assets than total liabilities.

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

Better yet, Kewpie grew its EBIT by 107% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. 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 Kewpie'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Kewpie 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. During the last three years, Kewpie produced sturdy free cash flow equating to 55% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to investigate a company's debt, in this case Kewpie has JP¥68.8b in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 107% over the last year. So is Kewpie's debt a risk? It doesn't seem so to us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Kewpie's earnings per share history for free.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.