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Zhejiang Chang’an Renheng Technology Co Ltd (HKG:8139) is a small-cap stock with a market capitalization of HK$137m. 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 8139 is loss-making right now, it’s essential 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. Though, given that I have not delve into the company-specifics, I’d encourage you to dig deeper yourself into 8139 here.
How much cash does 8139 generate through its operations?
Over the past year, 8139 has ramped up its debt from CN¥70m to CN¥73m – this includes both the current and long-term debt. With this rise in debt, 8139’s cash and short-term investments stands at CN¥2m for investing into the business. On top of this, 8139 has generated CN¥5m in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 7.5%, indicating that 8139’s operating cash is not sufficient to cover its debt. This ratio can also be a sign of operational efficiency for unprofitable companies as traditional metrics such as return on asset (ROA) requires a positive net income. In 8139’s case, it is able to generate 0.075x cash from its debt capital.
Does 8139’s liquid assets cover its short-term commitments?
Looking at 8139’s most recent CN¥89m liabilities, it seems that the business has been able to meet these obligations given the level of current assets of CN¥92m, with a current ratio of 1.03x. For Chemicals companies, this ratio is within a sensible range as there’s enough of a cash buffer without holding too much capital in low return investments.
Is 8139’s debt level acceptable?
With a debt-to-equity ratio of 82%, 8139 can be considered as an above-average leveraged company. This is not uncommon for a small-cap company given that debt tends to be lower-cost and at times, more accessible. However, since 8139 is presently loss-making, sustainability of its current state of operations becomes a concern. 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:
8139’s debt and cash flow levels indicate room for improvement. Its cash flow coverage of less than a quarter of debt means that operating efficiency could be an issue. Though, the company exhibits an ability to meet its near term obligations should an adverse event occur. I admit this is a fairly basic analysis for 8139’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research Zhejiang Chang’an Renheng Technology to get a better picture of the stock by looking at: