While small-cap stocks, such as Alliance Aviation Services Limited (ASX:AQZ) with its market cap of AUD A$183.90M, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. There are always disruptions which destabilize an existing industry, in which most small-cap companies are the first casualties. Here are few basic financial health checks to judge whether a company fits the bill or there is an additional risk which you should consider before taking the plunge. Check out our latest analysis for Alliance Aviation Services
Does AQZ generate enough cash through operations?
Unxpected adverse events, such as natural disasters and wars, can be a true test of a company’s capacity to meet its obligations. These adverse events bring devastation and yet does not absolve the company from its debt. We can test the impact of these adverse events by looking at whether cash from its current operations can pay back its current debt obligations. In the case of AQZ, operating cash flow turned out to be 0.29x its debt level over the past twelve months. This is a good sign, as over a quarter of AQZ’s near term debt can be covered by its day-to-day cash income, which reduces its riskiness to its debtholders.
Does AQZ’s liquid assets cover its short-term commitments?
In addition to debtholders, a company must be able to pay its bills and salaries to keep the business running. In times of adverse events, AQZ may need to liquidate its short-term assets to pay these immediate obligations. We should examine if the company’s cash and short-term investment levels match its current liabilities. Our analysis shows that AQZ is able to meet its upcoming commitments with its cash and other short-term assets, which lessens our concerns for the company’s business operations should any unfavourable circumstances arise.
Can AQZ service its debt comfortably?
While ideally the debt-to equity ratio of a financially healthy company should be less than 40%, several factors such as industry life-cycle and economic conditions can result in a company raising a significant amount of debt. In the case of AQZ, the debt-to-equity ratio is 51.95%, which means, while the company’s debt could pose a problem for its earnings stability, it is not at an alarmingly high level yet. While debt-to-equity ratio has several factors at play, an easier way to check whether AQZ’s leverage is at a sustainable level is to check its ability to service the debt. A company generating earnings at least three times its interest payments is considered financially sound. AQZ’s profits amply covers interest at 5.82 times, which is seen as relatively safe. This means lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.