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Zero-debt allows substantial financial flexibility, especially for small-cap companies like China-Hongkong Photo Products Holdings Limited (HKG:1123), 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 1123 has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I will go over a basic overview of the stock’s financial health, which I believe provides a ballpark estimate of their financial health status.
View our latest analysis for China-Hongkong Photo Products Holdings
Is 1123 right in choosing financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. Either 1123 does not have access to cheap capital, or it may believe this trade-off is not worth it. This makes sense only if the company has a competitive edge and is growing fast off its equity capital. A single-digit revenue growth of 9.1% for 1123 is considerably low for a small-cap company. More capital can help the business grow faster. If 1123 is not expecting exceptional future growth, then the decision to avoid may cost shareholders in the long term.
Does 1123’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, China-Hongkong Photo Products 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. Looking at 1123’s most recent HK$122m liabilities, it appears that the company has been able to meet these commitments with a current assets level of HK$521m, leading to a 4.28x current account ratio. Having said that, many consider anything above 3x to be quite high and could mean that 1123 has too much idle capital in low-earning investments.
Next Steps:
Having no debt on the books means 1123 has more financial freedom to keep growing at its current fast rate. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Going forward, 1123’s financial situation may change. Keep in mind I haven’t considered other factors such as how 1123 has been performing in the past. I recommend you continue to research China-Hongkong Photo Products Holdings to get a better picture of the stock by looking at: