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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Morimatsu International Holdings Company Limited (HKG:2155) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
Check out our latest analysis for Morimatsu International Holdings
What Is Morimatsu International Holdings's Debt?
You can click the graphic below for the historical numbers, but it shows that Morimatsu International Holdings had CN¥279.7m of debt in June 2024, down from CN¥399.8m, one year before. But on the other hand it also has CN¥2.40b in cash, leading to a CN¥2.12b net cash position.
How Healthy Is Morimatsu International Holdings' Balance Sheet?
According to the last reported balance sheet, Morimatsu International Holdings had liabilities of CN¥3.56b due within 12 months, and liabilities of CN¥273.5m due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.40b as well as receivables valued at CN¥2.38b due within 12 months. So it actually has CN¥944.1m more liquid assets than total liabilities.
It's good to see that Morimatsu International Holdings has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Morimatsu International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.
But the other side of the story is that Morimatsu International Holdings saw its EBIT decline by 9.1% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Morimatsu International Holdings 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, a company can only pay off debt with cold hard cash, not accounting profits. While Morimatsu International Holdings 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. In the last three years, Morimatsu International Holdings's free cash flow amounted to 49% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that Morimatsu International Holdings has net cash of CN¥2.12b, as well as more liquid assets than liabilities. So we are not troubled with Morimatsu International Holdings's debt use. 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. Case in point: We've spotted 1 warning sign for Morimatsu International Holdings you should be aware of.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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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.