We Think Wakou Shokuhin (TSE:2813) Can Manage Its Debt With Ease

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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, Wakou Shokuhin Co., Ltd. (TSE:2813) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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, 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 Wakou Shokuhin

How Much Debt Does Wakou Shokuhin Carry?

As you can see below, Wakou Shokuhin had JP¥2.56b of debt, at June 2024, which is about the same as the year before. You can click the chart for greater detail. However, its balance sheet shows it holds JP¥3.13b in cash, so it actually has JP¥569.0m net cash.

How Healthy Is Wakou Shokuhin's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Wakou Shokuhin had liabilities of JP¥4.09b due within 12 months and liabilities of JP¥1.81b due beyond that. On the other hand, it had cash of JP¥3.13b and JP¥2.27b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥498.0m.

Of course, Wakou Shokuhin has a market capitalization of JP¥13.3b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Wakou Shokuhin boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Wakou Shokuhin has boosted its EBIT by 38%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But it is Wakou Shokuhin's earnings that will influence how the balance sheet holds up in the future. 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Wakou Shokuhin 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. Over the most recent three years, Wakou Shokuhin recorded free cash flow worth 77% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

We could understand if investors are concerned about Wakou Shokuhin's liabilities, but we can be reassured by the fact it has has net cash of JP¥569.0m. And it impressed us with its EBIT growth of 38% over the last year. So is Wakou Shokuhin's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with Wakou Shokuhin (at least 1 which is a bit concerning) , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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.