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Baofeng Modern International Holdings Company Limited (HKG:1121) is a small-cap stock with a market capitalization of HK$423m. While investors primarily focus on the growth potential and competitive landscape of the small-cap companies, they end up ignoring a key aspect, which could be the biggest threat to its existence: its financial health. Why is it important? Since 1121 is loss-making right now, it’s vital to assess the current state of its operations and pathway to profitability. Here are few basic financial health checks you should consider before taking the plunge. Nevertheless, this commentary is still very high-level, so I’d encourage you to dig deeper yourself into 1121 here.
Does 1121 produce enough cash relative to debt?
1121’s debt levels have fallen from CN¥287m to CN¥261m over the last 12 months , which comprises of short- and long-term debt. With this debt payback, the current cash and short-term investment levels stands at CN¥6m , ready to deploy into the business. On top of this, 1121 has generated cash from operations of CN¥24m over the same time period, resulting in an operating cash to total debt ratio of 9.2%, indicating that 1121’s current level of operating cash is not high enough to cover debt. This ratio can also be interpreted as a measure of efficiency for loss making companies as traditional metrics such as return on asset (ROA) requires a positive net income. In 1121’s case, it is able to generate 0.092x cash from its debt capital.
Does 1121’s liquid assets cover its short-term commitments?
At the current liabilities level of CN¥361m liabilities, it seems that the business may not be able to easily meet these obligations given the level of current assets of CN¥99m, with a current ratio of 0.27x.
Does 1121 face the risk of succumbing to its debt-load?
With a debt-to-equity ratio of 71%, 1121 can be considered as an above-average leveraged company. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. But since 1121 is currently unprofitable, there’s a question of sustainability of its current operations. Maintaining a high level of debt, while revenues are still below costs, can be dangerous as liquidity tends to dry up in unexpected downturns.
Next Steps:
At its current level of cash flow coverage, 1121 has room for improvement to better cushion for events which may require debt repayment. In addition to this, its lack of liquidity raises questions over current asset management practices for the small-cap. Keep in mind I haven’t considered other factors such as how 1121 has been performing in the past. You should continue to research Baofeng Modern International Holdings to get a more holistic view of the stock by looking at: