In This Article:
Zero-debt allows substantial financial flexibility, especially for small-cap companies like Carpenter Tan Holdings Limited (HKG:837), as the company does not have to adhere to strict debt covenants. However, it also faces higher cost of capital given interest cost is generally lower than equity. While zero-debt makes the due diligence for potential investors less nerve-racking, it poses a new question: how should they assess the financial strength of such companies? I will go over a basic overview of the stock’s financial health, which I believe provides a ballpark estimate of their financial health status.
See our latest analysis for Carpenter Tan Holdings
Is 837 growing fast enough to value financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. But the downside of having debt in a company’s balance sheet is the debtholder’s higher claim on its assets in the case of liquidation, as well as stricter capital management requirements. The lack of debt on 837’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 837 is a high-growth company. A single-digit revenue growth of 4.5% for 837 is considerably low for a small-cap company. More capital can help the business grow faster. If 837 is not expecting exceptional future growth, then the decision to avoid may cost shareholders in the long term.
Can 837 pay its short-term liabilities?
Given zero long-term debt on its balance sheet, Carpenter Tan Holdings has no solvency issues, which is 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. With current liabilities at CN¥62m, the company has been able to meet these commitments with a current assets level of CN¥454m, leading to a 7.28x current account ratio. However, a ratio greater than 3x may be considered as quite high, and some might argue 837 could be holding too much capital in a low-return investment environment.
Next Steps:
837 is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. Since there is also no concerns around 837’s liquidity needs, this may be its optimal capital structure for the time being. Going forward, its financial position may change. This is only a rough assessment of financial health, and I’m sure 837 has company-specific issues impacting its capital structure decisions. You should continue to research Carpenter Tan Holdings to get a better picture of the stock by looking at: