While small-cap stocks, such as Asia Pacific Digital Limited (ASX:DIG) with its market cap of AUD A$16.85M, 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. See our latest analysis for DIG
Does DIG generate an acceptable amount of 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. Fortunately, we can test the company’s capacity to pay back its debtholders without summoning any catastrophes by looking at how much cash it generates from its current operations. Last year, DIG’s operating cash flow was -0.17x its current debt. This means what DIG can generate on an annual basis, which is currently a negative value, does not cover what it actually owes its debtors in the near term. This raises a red flag, looking at DIG’s operations at this point in time.
Can DIG meet its short-term obligations with the cash in hand?
What about its commitments to other stakeholders such as payments to suppliers and employees? During times of unfavourable events, DIG could be required to liquidate some of its assets to meet these upcoming payments, as cash flow from operations is hindered. We should examine if the company’s cash and short-term investment levels match its current liabilities. Our analysis shows that DIG is unable to meet all of its upcoming commitments with its cash and other short-term assets. While this is not abnormal for companies, as their cash is better invested in the business or returned to investors than lying around, it does bring about some concerns should any unfavourable circumstances arise.
Can DIG service its debt comfortably?
A substantially higher debt poses a significant threat to a company’s profitability during a downturn. In the case of DIG, the debt-to-equity ratio is over 100%, which indicates that the company is holding a high level of debt relative to its net worth. In the event of financial turmoil, the company may experience difficulty meeting interest and other debt obligations.
Next Steps:
Are you a shareholder? DIG’s high debt levels is not met with high cash flow coverage. This leaves room for improvement in terms of debt management and operational efficiency. In addition to this, the company may struggle to meet its near term liabilities should an adverse event occur. Moving forward, its financial position may change. You should always be keeping abreast of market expectations for DIG’s future growth on our free analysis platform.