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 Niraku GC Holdings, Inc. (HKG:1245) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Niraku GC Holdings

How Much Debt Does Niraku GC Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that Niraku GC Holdings had JP¥9.78b of debt in September 2024, down from JP¥10.6b, one year before. However, it does have JP¥11.1b in cash offsetting this, leading to net cash of JP¥1.35b.

A Look At Niraku GC Holdings' Liabilities

The latest balance sheet data shows that Niraku GC Holdings had liabilities of JP¥13.7b due within a year, and liabilities of JP¥31.8b falling due after that. Offsetting these obligations, it had cash of JP¥11.1b as well as receivables valued at JP¥172.0m due within 12 months. So its liabilities total JP¥34.2b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the JP¥4.37b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Niraku GC Holdings would likely require a major re-capitalisation if it had to pay its creditors today. Given that Niraku GC Holdings has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total.

Importantly, Niraku GC Holdings grew its EBIT by 65% over the last twelve months, and that growth will make it easier to handle its debt. 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 Niraku GC Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Niraku GC Holdings may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Niraku GC Holdings actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

Although Niraku GC Holdings's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of JP¥1.35b. And it impressed us with free cash flow of JP¥5.3b, being 194% of its EBIT. So we are not troubled with Niraku GC Holdings's debt use. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example - Niraku GC Holdings has 2 warning signs we think you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.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.