We Think Oki Electric Industry (TSE:6703) Is Taking Some Risk With Its 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 Oki Electric Industry Co., Ltd. (TSE:6703) makes use of debt. But should shareholders be worried about its use of debt?

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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 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 think about a company's use of debt, we first look at cash and debt together.

What Is Oki Electric Industry's Debt?

The chart below, which you can click on for greater detail, shows that Oki Electric Industry had JP¥99.9b in debt in June 2025; about the same as the year before. However, because it has a cash reserve of JP¥31.1b, its net debt is less, at about JP¥68.8b.

How Healthy Is Oki Electric Industry's Balance Sheet?

According to the last reported balance sheet, Oki Electric Industry had liabilities of JP¥156.5b due within 12 months, and liabilities of JP¥96.9b due beyond 12 months. Offsetting these obligations, it had cash of JP¥31.1b as well as receivables valued at JP¥92.1b due within 12 months. So its liabilities total JP¥130.2b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of JP¥148.3b, so it does suggest shareholders should keep an eye on Oki Electric Industry's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

View our latest analysis for Oki Electric Industry

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

We'd say that Oki Electric Industry's moderate net debt to EBITDA ratio ( being 2.4), indicates prudence when it comes to debt. And its strong interest cover of 1k times, makes us even more comfortable. Shareholders should be aware that Oki Electric Industry's EBIT was down 41% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. 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 Oki Electric Industry 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Oki Electric Industry's free cash flow amounted to 28% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

Mulling over Oki Electric Industry's attempt at (not) growing its EBIT, we're certainly not enthusiastic. But at least it's pretty decent at covering its interest expense with its EBIT; that's encouraging. Overall, we think it's fair to say that Oki Electric Industry has enough debt that there are some real risks around the balance sheet. If all goes well, that should boost returns, but on the flip side, the risk of permanent capital loss is elevated by the debt. 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. For instance, we've identified 3 warning signs for Oki Electric Industry that you should be aware of.

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.