Here's Why Advantest (TSE:6857) Can Manage Its Debt Responsibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Advantest Corporation (TSE:6857) makes use of debt. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Advantest

What Is Advantest's Net Debt?

As you can see below, at the end of December 2023, Advantest had JP¥74.2b of debt, up from JP¥48.6b a year ago. Click the image for more detail. But on the other hand it also has JP¥75.7b in cash, leading to a JP¥1.53b net cash position.

How Healthy Is Advantest's Balance Sheet?

The latest balance sheet data shows that Advantest had liabilities of JP¥178.4b due within a year, and liabilities of JP¥54.4b falling due after that. Offsetting these obligations, it had cash of JP¥75.7b as well as receivables valued at JP¥85.0b due within 12 months. So its liabilities total JP¥72.1b more than the combination of its cash and short-term receivables.

Having regard to Advantest's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the JP¥5.03t company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Advantest boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Advantest's saving grace is its low debt levels, because its EBIT has tanked 40% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Advantest's ability to maintain a healthy balance sheet going forward. 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. Advantest 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. Looking at the most recent three years, Advantest recorded free cash flow of 34% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Advantest has JP¥1.53b in net cash. So we are not troubled with Advantest's debt use. 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. For example, we've discovered 3 warning signs for Advantest (1 is concerning!) that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.