We Think Datasection (TSE:3905) Has A Fair Chunk Of Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. As with many other companies Datasection Inc. (TSE:3905) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

What Is Datasection's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Datasection had JP¥1.18b of debt in December 2024, down from JP¥1.36b, one year before. However, it also had JP¥544.0m in cash, and so its net debt is JP¥633.0m.

How Healthy Is Datasection's Balance Sheet?

According to the last reported balance sheet, Datasection had liabilities of JP¥1.42b due within 12 months, and liabilities of JP¥398.0m due beyond 12 months. Offsetting these obligations, it had cash of JP¥544.0m as well as receivables valued at JP¥780.0m due within 12 months. So it has liabilities totalling JP¥498.0m more than its cash and near-term receivables, combined.

Of course, Datasection has a market capitalization of JP¥16.0b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. There's no doubt that we learn most about debt from the balance sheet. But it is Datasection's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

View our latest analysis for Datasection

Over 12 months, Datasection reported revenue of JP¥2.7b, which is a gain of 28%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

While we can certainly appreciate Datasection's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. To be specific the EBIT loss came in at JP¥315m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled JP¥580m in negative free cash flow over the last twelve months. So to be blunt we think it is risky. 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. We've identified 2 warning signs with Datasection , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.