Is Sumitomo Chemical Company (TSE:4005) Weighed On By Its Debt Load?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Sumitomo Chemical Company, Limited (TSE:4005) 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Sumitomo Chemical Company

What Is Sumitomo Chemical Company's Net Debt?

As you can see below, at the end of December 2023, Sumitomo Chemical Company had JP¥1.67t of debt, up from JP¥1.45t a year ago. Click the image for more detail. However, it does have JP¥312.0b in cash offsetting this, leading to net debt of about JP¥1.35t.

How Healthy Is Sumitomo Chemical Company's Balance Sheet?

We can see from the most recent balance sheet that Sumitomo Chemical Company had liabilities of JP¥1.42t falling due within a year, and liabilities of JP¥1.34t due beyond that. Offsetting these obligations, it had cash of JP¥312.0b as well as receivables valued at JP¥569.1b due within 12 months. So its liabilities total JP¥1.89t more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the JP¥560.3b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Sumitomo Chemical Company would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Sumitomo Chemical Company's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Sumitomo Chemical Company had a loss before interest and tax, and actually shrunk its revenue by 18%, to JP¥2.4t. That's not what we would hope to see.

Caveat Emptor

Not only did Sumitomo Chemical Company's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping JP¥236b. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely, given it is low on liquid assets, and burned through JP¥277b in the last year. So we consider this a high risk stock and we wouldn't be at all surprised if the company asks shareholders for money before long. There's no doubt that we learn most about debt from the balance sheet. 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 2 warning signs for Sumitomo Chemical Company you should know about.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.