The direct benefit for Ideal Power Inc (NASDAQ:IPWR), which sports a zero-debt capital structure, to include debt in its capital structure is the reduced cost of capital. However, the trade-off is IPWR will have to adhere to stricter debt covenants and have less financial flexibility. While IPWR has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I recommend you look at the following hurdles to assess IPWR’s financial health. See our latest analysis for Ideal Power
Does IPWR’s growth rate justify its decision for financial flexibility over lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. The lack of debt on IPWR’s balance sheet may be because it does not have access to cheap capital, or it may believe this trade-off is not worth it. Choosing financial flexibility over capital returns make sense if IPWR is a high-growth company. IPWR delivered a negative revenue growth of -61.77%. While its negative growth hardly justifies opting for zero-debt, if the decline sustains, it may find it hard to raise debt at an acceptable cost.
Can IPWR pay its short-term liabilities?
Since Ideal Power doesn’t have any debt on its balance sheet, it doesn’t have any solvency issues, which is a term used to describe the company’s ability to meet its long-term obligations. However, another measure of financial health is its short-term obligations, which is known as liquidity. These include payments to suppliers, employees and other stakeholders. At the current liabilities level of $1.5M liabilities, the company has been able to meet these obligations given the level of current assets of $6.1M, with a current ratio of 4.11x. Though, anything above 3x is considered high and could mean that IPWR has too much idle capital in low-earning investments.
Next Steps:
Given that Ideal Power is a relatively low-growth company, being in a zero-debt position isn’t always optimal. As an investor, you may want to figure out if there are company-specific reasons for not having any debt, and whether the company needs financial flexibility at this point in time. This is only a rough assessment of financial health, and I’m sure IPWR has company-specific issues impacting its capital structure decisions. I suggest you continue to research Ideal Power to get a more holistic view of the stock by looking at: