Villa World Limited (ASX:VLW) is a small-cap stock with a market capitalization of AUD A$283.58M. While investors primarily focus on the growth potential and competitive landscape of the small-cap companies, they end up ignoring a key aspect, which could be the biggest threat to its existence: its financial health. There are always disruptions which destabilize an existing industry, in which most small-cap companies are the first casualties. Thus, it becomes utmost important for an investor to test a company’s resilience for such contingencies. In simple terms, I believe these three small calculations tell most of the story you need to know. View our latest analysis for Villa World
Does VLW generate an acceptable amount of cash through operations?
While failure to manage cash has been one of the major reasons behind the demise of a lot of small businesses, mismanagement comes into the light during tough situations such as an economic recession. These adverse events bring devastation and yet does not absolve the company from its debt. We can test the impact of these adverse events by looking at whether cash from its current operations can pay back its current debt obligations. In the case of VLW, operating cash flow turned out to be 0.44x its debt level over the past twelve months. This is a good sign, as over a quarter of VLW’s near term debt can be covered by its day-to-day cash income, which reduces its riskiness to its debtholders.
Can VLW pay its short-term liabilities?
In addition to debtholders, a company must be able to pay its bills and salaries to keep the business running. As cash flow from operation is hindered by adverse events, VLW may need to liquidate its short-term assets to meet these upcoming payments. We should examine if the company’s cash and short-term investment levels match its current liabilities. Our analysis shows that VLW does have enough liquid assets on hand to meet its upcoming liabilities, which lowers our concerns should adverse events arise.
Can VLW service its debt comfortably?
A substantially higher debt poses a significant threat to a company’s profitability during a downturn. VLW’s debt-to-equity ratio stands at 28.93%, which indicates that its debt is at an acceptable level. We can test if VLW’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings should cover interest by at least three times, therefore reducing concerns when profit is highly volatile. VLW’s interest on debt is sufficiently covered by earnings as it sits at around 35.92x. Lenders may be less hesitant to lend out more funding as VLW’s high interest coverage is seen as responsible and safe practice.