Warren Buffett famously said, “Volatility is not synonymous with risk.” When we think about how risky a company is, we always look at how it uses debt. Because too much debt can lead to ruin. Importantly, Beauty Kadan Holdings Co., Ltd. (TSE: 3041) has debt. But the more important question is how much risk that debt creates.
Why does debt pose a risk?
Generally, debt only becomes a real problem if a company cannot easily pay it off, either by raising capital or with its own cash flow. If the situation gets too bad, lenders may take control of your business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, resulting in permanent shareholder dilution. Of course, many companies use debt to fund growth, and there are no negative consequences. The first step when considering a company’s debt levels is to consider its cash and debt together.
Check out our latest analysis for Beauty Kadan Holdings.
How much debt does Bikadan Holdings have?
Click on the image below to see the details, but you can see that as of June 2024, Beauty Kadan Holdings’ debt was 1.44 billion yen, an increase from 1.31 billion yen in one year. However, since it has cash on hand of 1.07 billion yen, its net debt will be lower at approximately 367 million yen.
TSE: 3041 Transition from debt to equity October 29, 2024
Overview of Beauty Kadan Holdings’ debt
Zooming in on the latest balance sheet data, we can see that Beauty Kadan Holdings had liabilities of ¥1.28b due within 12 months, and liabilities of ¥891m due beyond that. On the other hand, it had cash of 1.07 billion yen and accounts receivable of 563 million yen that were scheduled to be repaid within the year. So its liabilities total ¥539m more than the combination of its cash and short-term receivables.
Beauty Kadan Holdings is valued at 1.71 billion yen, so this deficit is not too serious and it could potentially raise enough capital to strengthen its balance sheet if needed. However, it’s still worth carefully considering the company’s ability to repay its debt.
To determine how much debt a company has relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA), and its earnings before interest, tax, and amortization (EBIT) divided by its interest expense. (its interest cover). The advantage of this approach is that it takes into account both the absolute amount of debt (net debt to EBITDA) and the actual interest expense associated with that debt (interest cover ratio).
Beauty Kadan Holdings’ debt-to-EBITDA ratio is 2.9, with EBIT covering interest expense 7.0 times. Taken together, this means that while we don’t want higher debt levels, we think the current leverage can be managed. Shareholders should be aware that Beauty Kadan Holdings’ EBIT was -33% in the last year. If this earnings trend continues, paying off debt will be as easy as putting a cat on a roller coaster. When analyzing debt levels, the balance sheet is the obvious place to start. However, it is Beauty Kadan Holdings’ earnings that will influence how its balance sheet holds up in the future. So if you are keen to discover more about the company’s earnings, it might be worth checking this graph of its long-term earnings trend.
Finally, while tax preparers may adore accounting profits, lenders only accept cold hard cash. So it’s worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Beauty Kadan Holdings recorded free cash flow of 84% of its EBIT. This is more powerful than normally expected. This allows you to repay your debt as you wish.
our view
Beauty Kadan Holdings’ EBIT growth was materially negative in this analysis, although the other factors we considered were quite positive. There’s no question that its ability to convert EBIT to free cash flow is very fast. Considering all the factors mentioned above, we’re a bit cautious about Beauty Kadan Holdings’ use of debt. While debt has the benefit of increasing potential returns, we believe shareholders should explicitly consider how debt levels make the stock riskier. The balance sheet is clearly the area to focus on when analyzing debt. Ultimately, however, any company can contain risks that exist outside the balance sheet. We’ve identified 4 warning signs for Beauty Kadan Holdings (at least 2 shouldn’t be ignored). Understanding them should be part of your investment process.
Of course, if you’re the type of investor who prefers buying stocks without taking on debt, then don’t hesitate and discover our exclusive list of net cash growth stocks today.
Evaluation is complex, but we will simplify it here.
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This article by Simply Wall St is general in nature. We provide commentary using only unbiased methodologies, based on historical data and analyst forecasts, and articles are not intended to be financial advice. This is not a recommendation to buy or sell any stock, and does not take into account your objectives or financial situation. We aim to provide long-term, focused analysis based on fundamental data. Note that our analysis may not factor in the latest announcements or qualitative material from price-sensitive companies. Simply Wall St has no position in any stocks mentioned.
