These 4 Measures Indicate That Rohto PharmaceuticalLtd (TSE:4527) Is Using Debt Safely

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.' 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 note that Rohto Pharmaceutical Co.,Ltd. (TSE:4527) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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.

See our latest analysis for Rohto PharmaceuticalLtd

What Is Rohto PharmaceuticalLtd's Debt?

The image below, which you can click on for greater detail, shows that Rohto PharmaceuticalLtd had debt of JP¥9.63b at the end of December 2023, a reduction from JP¥15.7b over a year. But on the other hand it also has JP¥81.9b in cash, leading to a JP¥72.2b net cash position.

How Healthy Is Rohto PharmaceuticalLtd's Balance Sheet?

We can see from the most recent balance sheet that Rohto PharmaceuticalLtd had liabilities of JP¥83.6b falling due within a year, and liabilities of JP¥12.5b due beyond that. On the other hand, it had cash of JP¥81.9b and JP¥73.0b worth of receivables due within a year. So it actually has JP¥58.7b more liquid assets than total liabilities.

This surplus suggests that Rohto PharmaceuticalLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Rohto PharmaceuticalLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Also good is that Rohto PharmaceuticalLtd grew its EBIT at 19% over the last year, further increasing its ability to manage 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 Rohto PharmaceuticalLtd can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Rohto PharmaceuticalLtd may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Rohto PharmaceuticalLtd recorded free cash flow worth 51% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to investigate a company's debt, in this case Rohto PharmaceuticalLtd has JP¥72.2b in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 19% over the last year. So we don't think Rohto PharmaceuticalLtd's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in Rohto PharmaceuticalLtd, you may well want to click here to check an interactive graph of its earnings per share history.

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.