Are Innovatec S.p.A.'s (BIT:INC) Interest Costs Too High?

Simply Wall St

Mon, Jun 24, 2019, 1:31 AM

While small-cap stocks, such as Innovatec S.p.A. (BIT:INC) with its market cap of €8.1m, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Understanding the company's financial health becomes crucial, since poor capital management may bring about bankruptcies, which occur at a higher rate for small-caps. We'll look at some basic checks that can form a snapshot the company’s financial strength. Nevertheless, this is just a partial view of the stock, and I recommend you dig deeper yourself into INC here.

Does INC Produce Much Cash Relative To Its Debt?

Over the past year, INC has reduced its debt from €23m to €8.8m – this includes long-term debt. With this debt repayment, INC currently has €7.8m remaining in cash and short-term investments , ready to be used for running the business. Additionally, INC has generated cash from operations of €2.8m in the last twelve months, resulting in an operating cash to total debt ratio of 31%, signalling that INC’s current level of operating cash is high enough to cover debt.

Can INC pay its short-term liabilities?

At the current liabilities level of €22m, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.25x. The current ratio is the number you get when you divide current assets by current liabilities. Generally, for Electrical companies, this is a reasonable ratio as there's enough of a cash buffer without holding too much capital in low return investments.

Can INC service its debt comfortably?

With a debt-to-equity ratio of 99%, INC can be considered as an above-average leveraged company. This is a bit unusual for a small-cap stock, since they generally have a harder time borrowing than large more established companies. No matter how high the company’s debt, if it can easily cover the interest payments, it’s considered to be efficient with its use of excess leverage. A company generating earnings before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In INC's case, the ratio of 2.7x suggests that interest is not strongly covered, which means that lenders may be more reluctant to lend out more funding as INC’s low interest coverage already puts the company at higher risk of default.

Next Steps:

Although INC’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. Since there is also no concerns around INC's liquidity needs, this may be its optimal capital structure for the time being. This is only a rough assessment of financial health, and I'm sure INC has company-specific issues impacting its capital structure decisions. I recommend you continue to research Innovatec to get a better picture of the small-cap by looking at: