Does Muto Seiko (TYO:7927) Have A Healthy Balance Sheet?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that Muto Seiko Co. (TYO:7927) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Muto Seiko

What Is Muto Seiko's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Muto Seiko had JP¥7.63b of debt, an increase on JP¥6.38b, over one year. However, its balance sheet shows it holds JP¥8.95b in cash, so it actually has JP¥1.33b net cash.

How Healthy Is Muto Seiko's Balance Sheet?

The latest balance sheet data shows that Muto Seiko had liabilities of JP¥8.88b due within a year, and liabilities of JP¥3.42b falling due after that. Offsetting this, it had JP¥8.95b in cash and JP¥4.82b in receivables that were due within 12 months. So it can boast JP¥1.47b more liquid assets than total liabilities.

This surplus suggests that Muto Seiko is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Muto Seiko has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Muto Seiko grew its EBIT by 7.0% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Muto Seiko'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Muto Seiko 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 last three years, Muto Seiko actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While it is always sensible to investigate a company's debt, in this case Muto Seiko has JP¥1.33b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥1.6b, being 112% of its EBIT. So we don't think Muto Seiko's use of debt is risky. 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. For example, we've discovered 5 warning signs for Muto Seiko that you should be aware of before investing here.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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This article by Simply Wall St is general in nature. 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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