These 4 Measures Indicate That Nomura Real Estate Holdings (TSE:3231) Is Using Debt Extensively

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 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. Importantly, Nomura Real Estate Holdings, Inc. (TSE:3231) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Nomura Real Estate Holdings

What Is Nomura Real Estate Holdings's Debt?

As you can see below, at the end of December 2023, Nomura Real Estate Holdings had JP¥1.20t of debt, up from JP¥1.15t a year ago. Click the image for more detail. However, it does have JP¥43.5b in cash offsetting this, leading to net debt of about JP¥1.16t.

A Look At Nomura Real Estate Holdings' Liabilities

According to the last reported balance sheet, Nomura Real Estate Holdings had liabilities of JP¥275.6b due within 12 months, and liabilities of JP¥1.22t due beyond 12 months. Offsetting these obligations, it had cash of JP¥43.5b as well as receivables valued at JP¥66.6b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥1.38t.

This deficit casts a shadow over the JP¥644.9b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Nomura Real Estate Holdings would likely require a major re-capitalisation if it had to pay its creditors today.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

While Nomura Real Estate Holdings's debt to EBITDA ratio of 8.4 suggests a heavy debt load, its interest coverage of 9.1 implies it services that debt with ease. Overall we'd say it seems likely the company is carrying a fairly heavy swag of debt. One way Nomura Real Estate Holdings could vanquish its debt would be if it stops borrowing more but continues to grow EBIT at around 13%, as it did over the last year. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Nomura Real Estate Holdings 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Nomura Real Estate Holdings recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Our View

To be frank both Nomura Real Estate Holdings's net debt to EBITDA and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But on the bright side, its interest cover is a good sign, and makes us more optimistic. Overall, it seems to us that Nomura Real Estate Holdings's balance sheet is really quite a risk to the business. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with Nomura Real Estate Holdings (including 1 which is concerning) .

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.