Muraki (TYO:7477) Has A Rock Solid Balance Sheet

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Muraki Corporation (TYO:7477) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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 Muraki

What Is Muraki's Debt?

The image below, which you can click on for greater detail, shows that Muraki had debt of JP¥314.0m at the end of December 2020, a reduction from JP¥464.0m over a year. But it also has JP¥1.28b in cash to offset that, meaning it has JP¥963.0m net cash.

How Strong Is Muraki's Balance Sheet?

We can see from the most recent balance sheet that Muraki had liabilities of JP¥1.39b falling due within a year, and liabilities of JP¥432.0m due beyond that. Offsetting this, it had JP¥1.28b in cash and JP¥1.34b in receivables that were due within 12 months. So it can boast JP¥794.0m more liquid assets than total liabilities.

This excess liquidity is a great indication that Muraki'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, Muraki boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, Muraki grew its EBIT by 69% 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 it is Muraki'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Muraki 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. Over the last three years, Muraki actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While it is always sensible to investigate a company's debt, in this case Muraki has JP¥963.0m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥27m, being 176% of its EBIT. The bottom line is that Muraki's use of debt is absolutely fine. 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. For instance, we've identified 1 warning sign for Muraki that you should be aware of.

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. 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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