Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 can see that Acmos Inc. (TYO:6888) does use debt in its business. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for Acmos
What Is Acmos's Net Debt?
The image below, which you can click on for greater detail, shows that Acmos had debt of JP¥268.0m at the end of December 2020, a reduction from JP¥292.0m over a year. However, it does have JP¥1.82b in cash offsetting this, leading to net cash of JP¥1.55b.
How Strong Is Acmos' Balance Sheet?
The latest balance sheet data shows that Acmos had liabilities of JP¥962.0m due within a year, and liabilities of JP¥1.00m falling due after that. On the other hand, it had cash of JP¥1.82b and JP¥616.0m worth of receivables due within a year. So it can boast JP¥1.47b more liquid assets than total liabilities.
This surplus liquidity suggests that Acmos' balance sheet could take a hit just as well as Homer Simpson's head can take a punch. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Succinctly put, Acmos boasts net cash, so it's fair to say it does not have a heavy debt load!
The good news is that Acmos has increased its EBIT by 3.8% over twelve months, which should ease any concerns about debt repayment. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Acmos will need earnings to service that debt. 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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Acmos 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, Acmos produced sturdy free cash flow equating to 76% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.
Summing up
While it is always sensible to investigate a company's debt, in this case Acmos has JP¥1.55b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥450m, being 76% of its EBIT. So is Acmos's debt a risk? It doesn't seem so to us. 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. To that end, you should be aware of the 2 warning signs we've spotted with Acmos .
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. 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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About TSE:6888
Acmos
Provides information technology (IT) solutions and services in Japan.
Excellent balance sheet average dividend payer.
