Earth InfinityLtd (TSE:7692) Has A Rock Solid Balance Sheet

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Earth Infinity Co.Ltd. (TSE:7692) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Earth InfinityLtd

What Is Earth InfinityLtd's Net Debt?

The image below, which you can click on for greater detail, shows that Earth InfinityLtd had debt of JP¥996.0m at the end of October 2023, a reduction from JP¥1.20b over a year. However, it also had JP¥535.0m in cash, and so its net debt is JP¥461.0m.

A Look At Earth InfinityLtd's Liabilities

We can see from the most recent balance sheet that Earth InfinityLtd had liabilities of JP¥767.0m falling due within a year, and liabilities of JP¥649.0m due beyond that. Offsetting this, it had JP¥535.0m in cash and JP¥527.0m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by JP¥354.0m.

This state of affairs indicates that Earth InfinityLtd's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the JP¥20.7b company is short on cash, but still worth keeping an eye on the balance sheet.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Earth InfinityLtd has a low net debt to EBITDA ratio of only 0.95. And its EBIT easily covers its interest expense, being 65.6 times the size. So we're pretty relaxed about its super-conservative use of debt. Although Earth InfinityLtd made a loss at the EBIT level, last year, it was also good to see that it generated JP¥459m in EBIT over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is Earth InfinityLtd'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Happily for any shareholders, Earth InfinityLtd actually produced more free cash flow than EBIT over the last year. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Happily, Earth InfinityLtd's impressive interest cover implies it has the upper hand on its debt. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. It's also worth noting that Earth InfinityLtd is in the Electric Utilities industry, which is often considered to be quite defensive. Zooming out, Earth InfinityLtd seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns on equity. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with Earth InfinityLtd (including 2 which can't be ignored) .

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.