Zero-debt allows substantial financial flexibility, especially for small-cap companies like Affluent Partners Holdings Limited (SEHK:1466), 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. While zero-debt makes the due diligence for potential investors less nerve-racking, it poses a new question: how should they assess the financial strength of such companies? I recommend you look at the following hurdles to assess 1466’s financial health. Check out our latest analysis for Affluent Partners Holdings

Is 1466 growing fast enough to value financial flexibility over lower cost of capital?

Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. But the downside of having debt in a company’s balance sheet is the debtholder’s higher claim on its assets in the case of liquidation, as well as stricter capital management requirements. The lack of debt on 1466’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 1466 is a high-growth company. A single-digit revenue growth of 1.05% for 1466 is considerably low for a small-cap company. While its low growth hardly justifies opting for zero-debt, the company may have high growth projects in the pipeline to justify the trade-off.

Can 1466 pay its short-term liabilities?

Given zero long-term debt on its balance sheet, Affluent Partners Holdings has no solvency issues, which is used to describe the company’s ability to meet its long-term obligations. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. At the current liabilities level of HK$23.2M liabilities, it seems that the business has been able to meet these commitments with a current assets level of HK$295.0M, leading to a 12.74x current account ratio. Though, anything about 3x may be excessive, since 1466 may be leaving too much capital in low-earning investments.

Next Steps:

1466’s soft top-line growth means not having any low-cost debt funding may not be optimal for the business. As an investor, you may want to figure out if there are company-specific reasons for not having any debt, and why financial flexibility is needed at this stage in its business cycle. This is only a rough assessment of financial health, and I’m sure 1466 has company-specific issues impacting its capital structure decisions. You should continue to research Affluent Partners Holdings to get a more holistic view of the stock by looking at: