We Think OPEN Group (TSE:6572) Can Manage Its Debt With Ease

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that OPEN Group, Inc. (TSE:6572) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

Check out our latest analysis for OPEN Group

What Is OPEN Group's Debt?

You can click the graphic below for the historical numbers, but it shows that as of August 2024 OPEN Group had JP¥3.63b of debt, an increase on JP¥3.44b, over one year. However, it does have JP¥10.6b in cash offsetting this, leading to net cash of JP¥6.94b.

How Healthy Is OPEN Group's Balance Sheet?

We can see from the most recent balance sheet that OPEN Group had liabilities of JP¥5.84b falling due within a year, and liabilities of JP¥1.50b due beyond that. Offsetting this, it had JP¥10.6b in cash and JP¥2.28b in receivables that were due within 12 months. So it can boast JP¥5.52b more liquid assets than total liabilities.

This excess liquidity is a great indication that OPEN Group's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Simply put, the fact that OPEN Group has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that OPEN Group has boosted its EBIT by 34%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is OPEN Group's earnings that will influence how the balance sheet holds up in the future. 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. While OPEN Group 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. Happily for any shareholders, OPEN Group actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While it is always sensible to investigate a company's debt, in this case OPEN Group has JP¥6.94b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of JP¥260m, being 129% of its EBIT. At the end of the day we're not concerned about OPEN Group's debt. 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 - OPEN Group has 3 warning signs we think you should be aware of.

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.

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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.