Is System Support (TSE:4396) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. Importantly, System Support Inc. (TSE:4396) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for System Support

How Much Debt Does System Support Carry?

As you can see below, System Support had JP¥911.6m of debt at June 2024, down from JP¥1.01b a year prior. However, it does have JP¥4.25b in cash offsetting this, leading to net cash of JP¥3.34b.

How Strong Is System Support's Balance Sheet?

We can see from the most recent balance sheet that System Support had liabilities of JP¥4.27b falling due within a year, and liabilities of JP¥606.8m due beyond that. Offsetting this, it had JP¥4.25b in cash and JP¥3.52b in receivables that were due within 12 months. So it can boast JP¥2.90b more liquid assets than total liabilities.

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

And we also note warmly that System Support grew its EBIT by 15% last year, making its debt load easier to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if System Support 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While System Support has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, System Support recorded free cash flow worth 73% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to investigate a company's debt, in this case System Support has JP¥3.34b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥1.3b, being 73% of its EBIT. So is System Support's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 1 warning sign for System Support that you should be aware of before investing here.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.