Zero-debt allows substantial financial flexibility, especially for small-cap companies like Metal Bank Limited (ASX:MBK), as the company does not have to adhere to strict debt covenants. However, it also faces higher cost of capital given interest cost is generally lower than equity. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean MBK has outstanding financial strength. I recommend you look at the following hurdles to assess MBK’s financial health.

Check out our latest analysis for Metal Bank

Does MBK’s growth rate justify its decision for financial flexibility over lower cost of capital?

There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. The lack of debt on MBK’s balance sheet may be because it does not have access to cheap capital, or it may believe this trade-off is not worth it. Choosing financial flexibility over capital returns make sense if MBK is a high-growth company. MBK delivered a negative revenue growth of -4.0%. While its negative growth hardly justifies opting for zero-debt, if the decline sustains, it may find it hard to raise debt at an acceptable cost.

Does MBK’s liquid assets cover its short-term commitments?

Given zero long-term debt on its balance sheet, Metal Bank has no solvency issues, which is used to describe the company’s ability to meet its long-term obligations. However, another measure of financial health is its short-term obligations, which is known as liquidity. These include payments to suppliers, employees and other stakeholders. At the current liabilities level of AU$234k liabilities, it seems that the business has been able to meet these obligations given the level of current assets of AU$3m, with a current ratio of 13.09x. Having said that, anything above 3x may be considered excessive by some investors.

Next Steps:

Having no debt on the books means MBK has more financial freedom to keep growing at its current fast rate. Since there is also no concerns around MBK’s liquidity needs, this may be its optimal capital structure for the time being. Moving forward, MBK’s financial situation may change. I admit this is a fairly basic analysis for MBK’s financial health. Other important fundamentals need to be considered alongside. I recommend you continue to research Metal Bank to get a better picture of the stock by looking at: