These 4 Measures Indicate That CREAL (TSE:2998) Is Using Debt Reasonably Well

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies CREAL Inc. (TSE:2998) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for CREAL

What Is CREAL's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 CREAL had JP¥5.93b of debt, an increase on JP¥3.03b, over one year. But it also has JP¥9.54b in cash to offset that, meaning it has JP¥3.61b net cash.

A Look At CREAL's Liabilities

Zooming in on the latest balance sheet data, we can see that CREAL had liabilities of JP¥31.2b due within 12 months and liabilities of JP¥753.0m due beyond that. Offsetting these obligations, it had cash of JP¥9.54b as well as receivables valued at JP¥28.0m due within 12 months. So it has liabilities totalling JP¥22.4b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of JP¥25.2b, so it does suggest shareholders should keep an eye on CREAL's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. While it does have liabilities worth noting, CREAL also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, CREAL grew its EBIT by 79% 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 CREAL 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. CREAL 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. In the last three years, CREAL created free cash flow amounting to 11% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

Although CREAL's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of JP¥3.61b. And we liked the look of last year's 79% year-on-year EBIT growth. So we are not troubled with CREAL's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for CREAL (1 is potentially serious) you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.

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