The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. Importantly, Sun Corporation (TYO:6736) does carry debt. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for Sun
What Is Sun's Debt?
As you can see below, at the end of September 2020, Sun had JP¥6.84b of debt, up from JP¥4.18b a year ago. Click the image for more detail. But it also has JP¥26.9b in cash to offset that, meaning it has JP¥20.0b net cash.
A Look At Sun's Liabilities
We can see from the most recent balance sheet that Sun had liabilities of JP¥22.4b falling due within a year, and liabilities of JP¥1.84b due beyond that. Offsetting these obligations, it had cash of JP¥26.9b as well as receivables valued at JP¥5.66b due within 12 months. So it actually has JP¥8.29b more liquid assets than total liabilities.
This surplus suggests that Sun has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Sun boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Sun 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.
Over 12 months, Sun reported revenue of JP¥26b, which is a gain of 3.8%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.
So How Risky Is Sun?
While Sun lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow JP¥1.2b. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. With mediocre revenue growth in the last year, we're don't find the investment opportunity particularly compelling. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Sun (1 is significant) 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. 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:6736
Sun
Engages in the mobile data solutions, entertainment, information technology, and other businesses in Japan.
Excellent balance sheet with acceptable track record.
