Shinoken Group (TYO:8909) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Shinoken Group Co., Ltd. (TYO:8909) 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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 Shinoken Group

How Much Debt Does Shinoken Group Carry?

As you can see below, Shinoken Group had JP¥32.1b of debt, at December 2020, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has JP¥35.4b in cash, leading to a JP¥3.29b net cash position.

How Strong Is Shinoken Group's Balance Sheet?

According to the last reported balance sheet, Shinoken Group had liabilities of JP¥26.2b due within 12 months, and liabilities of JP¥20.4b due beyond 12 months. Offsetting this, it had JP¥35.4b in cash and JP¥8.27b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥2.94b.

Of course, Shinoken Group has a market capitalization of JP¥38.3b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Shinoken Group boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Shinoken Group saw its EBIT drop by 6.5% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Shinoken Group will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Shinoken Group 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. Over the last three years, Shinoken Group actually produced more free cash flow than EBIT. 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 it is always sensible to look at a company's total liabilities, it is very reassuring that Shinoken Group has JP¥3.29b in net cash. The cherry on top was that in converted 121% of that EBIT to free cash flow, bringing in JP¥11b. So is Shinoken Group's debt a risk? It doesn't seem so to us. 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 example, we've discovered 3 warning signs for Shinoken Group (1 makes us a bit uncomfortable!) that you should be aware of before investing here.

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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