Is Advantest (TSE:6857) Using Too Much Debt?

External fund manager Li Lu, backed by Berkshire Hathaway’s Charlie Munger, makes no bones about it when he says: “The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.” When you think about it, how If a particular stock is risky, it may be obvious that you need to consider debt, because too much debt can sink a company. As with many other companies Advantest Corporation (TSE:6857) uses debt. But the more important question is: How much risk does this debt pose?

Why does debt pose risks?

Debt and other liabilities become risky for a company when it cannot easily meet those obligations, either through free cash flow or by raising capital at an attractive price. A key component of capitalism is the process of “creative destruction,” in which failed companies are mercilessly liquidated by their bankers. However, it is more common (but still costly) for a company to have to issue shares at bargain prices, resulting in permanent shareholder dilution, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, especially capital-intensive businesses. The first step when considering a company’s debt levels is to consider its cash and debt together.

Check out our latest analysis for Advantest

How much is Advantest’s net debt?

You can click on the graphic below to see the historical numbers. However, it shows that Advantest had debt of JP¥74.3 billion as of September 2024, up from JP¥55.0 billion in a year. However, the balance sheet shows that the company holds JP¥167.2b in cash, so it actually has JP¥92.9b in net cash.

How healthy is Advantest’s balance sheet?

The latest balance sheet data shows that Advantest had liabilities of JP¥174.3b within a year, and liabilities of JP¥112.0b falling due after that. On the other hand, it had cash of JP¥167.2b and JP¥114.1b worth of receivables due within a year. These liquid assets roughly correspond to the total liabilities.

This state of affairs suggests that Advantest’s balance sheet looks quite solid, with total liabilities roughly equal to its cash and cash equivalents. While it’s hard to imagine the ¥6.09 trillion company struggling for cash, we still think its balance sheet is worth keeping an eye on. Despite its significant liabilities, Advantest has net cash, so it’s fair to say that the company doesn’t have a large debt load!

Also positive is that Advantest grew its EBIT by 29% last year, which should make it easier to pay off debt in the future. When analyzing debt levels, the balance sheet is the obvious place to start. But it is future earnings that will determine whether Advantest can maintain a healthy balance sheet in the future. So if you’re focused on the future, you can look at that free Report with analyst profit forecasts.

And finally, while the tax officer is happy about accounting profits, lenders only accept cold hard cash. While Advantest does have net cash on the balance sheet, it is still interesting to see how well the company converts its earnings before interest and tax (EBIT) into free cash flow, as this will influence both its need for it and its ability to do so Manage debt. Looking at the last three years, Advantest recorded free cash flow of 42% of its EBIT, which is weaker than we’d expect. That’s not great when it comes to paying off debt.

In summary

We could understand if investors are concerned about Advantest’s liabilities, but we can be reassured if the company has net cash of JP¥92.9b. And we liked last year’s EBIT growth of 29% year over year. Therefore, we do not consider Advantest’s use of debt to be risky. There is no doubt that the balance sheet is where we learn the most about debt. However, not all investment risks lie on the balance sheet – quite the opposite. For example, we discovered it 1 warning sign for Advantest what you should be aware of before investing here.

If you’re the kind of investor who prefers buying stocks without the burden of debt, then don’t hesitate to explore our exclusive list of net cash growth stocks today.

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This article from Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts using only an unbiased methodology and our articles are not intended as financial advice. It does not constitute a recommendation to buy or sell any stock and does not take into account your objectives or financial situation. Our goal is to provide you with long-term focused analysis based on fundamental data. Note that our analysis may not reflect the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.