Mitsui Mining & Smelting (TSE:5706) Has A Pretty Healthy Balance Sheet

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Mitsui Mining & Smelting Co., Ltd. (TSE:5706) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Mitsui Mining & Smelting

How Much Debt Does Mitsui Mining & Smelting Carry?

You can click the graphic below for the historical numbers, but it shows that Mitsui Mining & Smelting had JP¥204.6b of debt in June 2024, down from JP¥217.0b, one year before. On the flip side, it has JP¥48.2b in cash leading to net debt of about JP¥156.4b.

How Healthy Is Mitsui Mining & Smelting's Balance Sheet?

The latest balance sheet data shows that Mitsui Mining & Smelting had liabilities of JP¥207.7b due within a year, and liabilities of JP¥151.4b falling due after that. Offsetting these obligations, it had cash of JP¥48.2b as well as receivables valued at JP¥111.5b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥199.4b.

This deficit is considerable relative to its market capitalization of JP¥274.8b, so it does suggest shareholders should keep an eye on Mitsui Mining & Smelting's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

We'd say that Mitsui Mining & Smelting's moderate net debt to EBITDA ratio ( being 1.6), indicates prudence when it comes to debt. And its strong interest cover of 41.9 times, makes us even more comfortable. Although Mitsui Mining & Smelting made a loss at the EBIT level, last year, it was also good to see that it generated JP¥61b in EBIT over the last twelve months. 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 Mitsui Mining & Smelting's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the most recent year, Mitsui Mining & Smelting recorded free cash flow worth 72% 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.

Our View

Mitsui Mining & Smelting's interest cover was a real positive on this analysis, as was its conversion of EBIT to free cash flow. On the other hand, its level of total liabilities makes us a little less comfortable about its debt. Considering this range of data points, we think Mitsui Mining & Smelting is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with Mitsui Mining & Smelting (including 1 which is concerning) .

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.