While small-cap stocks, such as Cedar Woods Properties Limited (ASX:CWP) with its market cap of AUD A$452.84M, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. The significance of doing due diligence on a company’s financial strength stems from the fact that over 20,000 companies go bankrupt in every quarter in the US alone. These factors make a basic understanding of a company’s financial position of utmost importance for a potential investor. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. See our latest analysis for CWP

How does CWP’s operating cash flow stack up against its debt?

There are many headwinds that come unannounced, such as natural disasters and political turmoil, which can challenge a small business and its ability to adapt and recover. Furthermore, failure to service debt can hurt its reputation, making funding expensive in the future. 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. Last year, CWP’s operating cash flow was 0.01x its current debt. This is concerning as its incoming cash can pay off less than a tenth of what the company must return in the near term.

Can CWP pay its short-term liabilities?

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, CWP 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 CWP 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.

Is CWP’s level of debt at an acceptable level?

Debt-to-equity ratio tells us how much of the asset debtors could claim if the company went out of business. In the case of CWP, the debt-to-equity ratio is 26.57%, which means its debt level does not pose a threat to its operations right now. While debt-to-equity ratio has several factors at play, an easier way to check whether CWP’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. In CWP’s case, its interest is excessively covered by its earnings as the ratio sits at 33.08x. This means lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.