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While small-cap stocks, such as Hotel Royal Limited (SGX:H12) with its market cap of S$310m, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. So, understanding the company’s financial health becomes essential, since poor capital management may bring about bankruptcies, which occur at a higher rate for small-caps. Here are few basic financial health checks you should consider before taking the plunge. Nevertheless, this commentary is still very high-level, so I recommend you dig deeper yourself into H12 here.
Does H12 produce enough cash relative to debt?
H12 has shrunken its total debt levels in the last twelve months, from S$154m to S$106m , which also accounts for long term debt. With this debt payback, the current cash and short-term investment levels stands at S$39m for investing into the business. Additionally, H12 has produced S$17m in operating cash flow over the same time period, leading to an operating cash to total debt ratio of 16%, indicating that H12’s current level of operating cash is not high enough to cover debt. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In H12’s case, it is able to generate 0.16x cash from its debt capital.
Does H12’s liquid assets cover its short-term commitments?
Looking at H12’s S$16m in current liabilities, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 2.79x. Usually, for Hospitality companies, this is a suitable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Does H12 face the risk of succumbing to its debt-load?
H12’s level of debt is appropriate relative to its total equity, at 17%. H12 is not taking on too much debt commitment, which may be constraining for future growth. We can test if H12’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For H12, the ratio of 2.95x suggests that interest is not strongly covered, which means that lenders may be more reluctant to lend out more funding as H12’s low interest coverage already puts the company at higher risk of default.
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H12 has demonstrated its ability to generate sufficient levels of cash flow, while its debt hovers at a safe level. Furthermore, 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 H12’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research Hotel Royal to get a more holistic view of the stock by looking at: