The direct benefit for BII Railway Transportation Technology Holdings Company Limited (HKG:1522), 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 1522 will have to adhere to stricter debt covenants and have less financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean 1522 has outstanding financial strength. I will take you through a few basic checks to assess the financial health of companies with no debt.

Check out our latest analysis for BII Railway Transportation Technology Holdings

Is 1522 right in choosing financial flexibility over lower cost of capital?

Debt capital generally has lower cost of capital compared to equity funding. Though, the trade-offs are that lenders require stricter capital management requirements, in addition to having a higher claim on company assets relative to shareholders. The lack of debt on 1522’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 1522 is a high-growth company. Opposite to the high growth we were expecting, 1522’s negative revenue growth of -14% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.

Can 1522 meet its short-term obligations with the cash in hand?

Since BII Railway Transportation Technology Holdings 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. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. Looking at 1522’s most recent HK$435m liabilities, it seems that the business has been able to meet these commitments with a current assets level of HK$1.9b, leading to a 4.41x current account ratio. However, anything above 3x may be considered excessive by some investors. They might argue 1522 is leaving too much capital in low-earning investments.

Next Steps:

As a high-growth company, it may be beneficial for 1522 to have some financial flexibility, hence zero-debt. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Moving forward, its financial position may be different. Keep in mind I haven’t considered other factors such as how 1522 has been performing in the past. I recommend you continue to research BII Railway Transportation Technology Holdings to get a better picture of the stock by looking at: