Is Cerespo (TSE:9625) A Risky Investment?

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 Cerespo Co., Ltd. (TSE:9625) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Cerespo

What Is Cerespo's Debt?

As you can see below, Cerespo had JP¥800.0m of debt at September 2024, down from JP¥1.05b a year prior. But on the other hand it also has JP¥5.30b in cash, leading to a JP¥4.50b net cash position.

How Strong Is Cerespo's Balance Sheet?

The latest balance sheet data shows that Cerespo had liabilities of JP¥2.24b due within a year, and liabilities of JP¥156.0m falling due after that. On the other hand, it had cash of JP¥5.30b and JP¥2.34b worth of receivables due within a year. So it actually has JP¥5.24b more liquid assets than total liabilities.

This excess liquidity is a great indication that Cerespo's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, Cerespo boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Cerespo's load is not too heavy, because its EBIT was down 97% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is Cerespo's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Cerespo 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. Happily for any shareholders, Cerespo actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Cerespo has net cash of JP¥4.50b, as well as more liquid assets than liabilities. The cherry on top was that in converted 108% of that EBIT to free cash flow, bringing in -JP¥797m. So we don't think Cerespo's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Cerespo is showing 2 warning signs in our investment analysis , 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.