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Zero-debt allows substantial financial flexibility, especially for small-cap companies like Vision Values Holdings Limited (HKG:862), 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 recommend you look at the following hurdles to assess 862’s financial health.
View our latest analysis for Vision Values Holdings
Is 862 right in choosing financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. 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 862’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 862 is a high-growth company. 862 delivered a negative revenue growth of -14.7%. 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 862 meet its short-term obligations with the cash in hand?
Given zero long-term debt on its balance sheet, Vision Values 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 HK$20.4m, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 5.59x. However, a ratio greater than 3x may be considered as too high, as 862 could be holding too much capital in a low-return investment environment.
Next Steps:
As a high-growth company, it may be beneficial for 862 to have some financial flexibility, hence zero-debt. Since there is also no concerns around 862’s liquidity needs, this may be its optimal capital structure for the time being. Moving forward, its financial position may change. I admit this is a fairly basic analysis for 862’s financial health. Other important fundamentals need to be considered alongside. I recommend you continue to research Vision Values Holdings to get a better picture of the stock by looking at: