Here's Why YUMEMITSUKETAILtd (TSE:2673) Can Manage Its Debt Responsibly

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that YUMEMITSUKETAI Co.,Ltd. (TSE:2673) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for YUMEMITSUKETAILtd

How Much Debt Does YUMEMITSUKETAILtd Carry?

The image below, which you can click on for greater detail, shows that YUMEMITSUKETAILtd had debt of JP¥695.0m at the end of September 2024, a reduction from JP¥981.0m over a year. However, it does have JP¥38.0m in cash offsetting this, leading to net debt of about JP¥657.0m.

How Strong Is YUMEMITSUKETAILtd's Balance Sheet?

According to the last reported balance sheet, YUMEMITSUKETAILtd had liabilities of JP¥496.0m due within 12 months, and liabilities of JP¥382.0m due beyond 12 months. On the other hand, it had cash of JP¥38.0m and JP¥20.0m worth of receivables due within a year. So its liabilities total JP¥820.0m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of JP¥1.21b, so it does suggest shareholders should keep an eye on YUMEMITSUKETAILtd's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

YUMEMITSUKETAILtd has a rather high debt to EBITDA ratio of 8.0 which suggests a meaningful debt load. However, its interest coverage of 6.2 is reasonably strong, which is a good sign. Notably, YUMEMITSUKETAILtd made a loss at the EBIT level, last year, but improved that to positive EBIT of JP¥81m in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is YUMEMITSUKETAILtd's earnings that will influence how the balance sheet holds up in the future. 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, YUMEMITSUKETAILtd 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.

Our View

YUMEMITSUKETAILtd's net debt to EBITDA was a real negative on this analysis, although the other factors we considered were considerably better. In particular, we are dazzled with its conversion of EBIT to free cash flow. When we consider all the factors mentioned above, we do feel a bit cautious about YUMEMITSUKETAILtd's use of debt. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. 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. Case in point: We've spotted 3 warning signs for YUMEMITSUKETAILtd you should be aware of, and 2 of them are potentially serious.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.