Does PAL GROUP Holdings (TSE:2726) Have A Healthy Balance Sheet?

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. We note that PAL GROUP Holdings CO., LTD. (TSE:2726) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for PAL GROUP Holdings

What Is PAL GROUP Holdings's Debt?

As you can see below, PAL GROUP Holdings had JP¥11.2b of debt at November 2023, down from JP¥11.7b a year prior. However, it does have JP¥64.2b in cash offsetting this, leading to net cash of JP¥53.0b.

How Healthy Is PAL GROUP Holdings' Balance Sheet?

According to the last reported balance sheet, PAL GROUP Holdings had liabilities of JP¥50.8b due within 12 months, and liabilities of JP¥17.4b due beyond 12 months. Offsetting these obligations, it had cash of JP¥64.2b as well as receivables valued at JP¥13.2b due within 12 months. So it actually has JP¥9.24b more liquid assets than total liabilities.

This surplus suggests that PAL GROUP Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, PAL GROUP Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, PAL GROUP Holdings grew its EBIT by 33% over the last twelve months, and that growth will make it easier to handle its debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if PAL GROUP Holdings can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. PAL GROUP Holdings 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. During the last three years, PAL GROUP Holdings generated free cash flow amounting to a very robust 91% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that PAL GROUP Holdings has net cash of JP¥53.0b, as well as more liquid assets than liabilities. The cherry on top was that in converted 91% of that EBIT to free cash flow, bringing in JP¥13b. So we don't think PAL GROUP Holdings's use of debt is risky. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of PAL GROUP Holdings's earnings per share history for free.

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.