ISE Chemicals (TSE:4107) Seems To Use Debt Quite Sensibly

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. Importantly, ISE Chemicals Corporation (TSE:4107) 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. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for ISE Chemicals

How Much Debt Does ISE Chemicals Carry?

As you can see below, ISE Chemicals had JP¥600.0m of debt, at December 2023, which is about the same as the year before. You can click the chart for greater detail. However, it does have JP¥9.72b in cash offsetting this, leading to net cash of JP¥9.12b.

How Strong Is ISE Chemicals' Balance Sheet?

The latest balance sheet data shows that ISE Chemicals had liabilities of JP¥6.81b due within a year, and liabilities of JP¥1.39b falling due after that. Offsetting this, it had JP¥9.72b in cash and JP¥6.69b in receivables that were due within 12 months. So it actually has JP¥8.22b more liquid assets than total liabilities.

This short term liquidity is a sign that ISE Chemicals could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, ISE Chemicals boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, ISE Chemicals grew its EBIT by 41% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if ISE Chemicals can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While ISE Chemicals 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. Looking at the most recent three years, ISE Chemicals recorded free cash flow of 21% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that ISE Chemicals has net cash of JP¥9.12b, as well as more liquid assets than liabilities. And we liked the look of last year's 41% year-on-year EBIT growth. So we don't think ISE Chemicals's use of debt is risky. 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. We've identified 2 warning signs with ISE Chemicals (at least 1 which doesn't sit too well with us) , and understanding them should be part of your investment process.

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.