Investors are always looking for growth in small-cap stocks like SMTC Corporation (NASDAQ:SMTX), with a market cap of US$36.34M. However, an important fact which most ignore is: how financially healthy is the business? Companies operating in the Electronic industry, especially ones that are currently loss-making, are inclined towards being higher risk. Evaluating financial health as part of your investment thesis is vital. Here are few basic financial health checks you should consider before taking the plunge. Nevertheless, given that I have not delve into the company-specifics, I recommend you dig deeper yourself into SMTX here.

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

SMTX has shrunken its total debt levels in the last twelve months, from US$16.48M to US$13.39M , which is made up of current and long term debt. With this debt repayment, SMTX currently has US$8.50M remaining in cash and short-term investments , ready to deploy into the business. On top of this, SMTX has generated US$6.86M in operating cash flow during the same period of time, leading to an operating cash to total debt ratio of 51.24%, indicating that SMTX’s debt is appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency for unprofitable businesses since metrics such as return on asset (ROA) requires a positive net income. In SMTX’s case, it is able to generate 0.51x cash from its debt capital.

Can SMTX meet its short-term obligations with the cash in hand?

At the current liabilities level of US$34.25M liabilities, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.59x. Generally, for Electronic companies, this is a reasonable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.

Can SMTX service its debt comfortably?

SMTX is a relatively highly levered company with a debt-to-equity of 74.25%. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. But since SMTX is presently loss-making, there’s a question of sustainability of its current operations. Running high debt, while not yet making money, can be risky in unexpected downturns as liquidity may dry up, making it hard to operate.

Next Steps:

Although SMTX’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Keep in mind I haven’t considered other factors such as how SMTX has been performing in the past. I recommend you continue to research SMTC to get a better picture of the small-cap by looking at the areas below. Just a heads up – to access some parts of the Simply Wall St research tool you might be asked to create a free account, but it takes just one click and the information they provide is definitely worth it in my opinion.