Is TOWA (TSE:6315) A Risky Investment?

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 TOWA Corporation (TSE:6315) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for TOWA

What Is TOWA's Net Debt?

As you can see below, TOWA had JP¥13.0b of debt at June 2024, down from JP¥14.8b a year prior. However, it does have JP¥22.0b in cash offsetting this, leading to net cash of JP¥8.95b.

How Healthy Is TOWA's Balance Sheet?

We can see from the most recent balance sheet that TOWA had liabilities of JP¥21.5b falling due within a year, and liabilities of JP¥5.86b due beyond that. Offsetting these obligations, it had cash of JP¥22.0b as well as receivables valued at JP¥11.6b due within 12 months. So it can boast JP¥6.17b more liquid assets than total liabilities.

This surplus suggests that TOWA has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that TOWA has more cash than debt is arguably a good indication that it can manage its debt safely.

Another good sign is that TOWA has been able to increase its EBIT by 23% in twelve months, making it easier to pay down 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 TOWA 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. TOWA 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. In the last three years, TOWA's free cash flow amounted to 36% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case TOWA has JP¥8.95b in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 23% over the last year. So is TOWA's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that TOWA is showing 2 warning signs in our investment analysis , and 1 of those shouldn't be ignored...

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.