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Small-cap and large-cap companies receive a lot of attention from investors, but mid-cap stocks like Kunlun Energy Company Limited (HKG:135), with a market cap of HK$73b, are often out of the spotlight. However, history shows that overlooked mid-cap companies have performed better on a risk-adjusted manner than the smaller and larger segment of the market. Today we will look at 135’s financial liquidity and debt levels, which are strong indicators for whether the company can weather economic downturns or fund strategic acquisitions for future growth. Note that this commentary is very high-level and solely focused on financial health, so I suggest you dig deeper yourself into 135 here.
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Does 135 Produce Much Cash Relative To Its Debt?
Over the past year, 135 has ramped up its debt from CN¥35b to CN¥39b , which includes long-term debt. With this increase in debt, 135’s cash and short-term investments stands at CN¥17b , ready to be used for running the business. Additionally, 135 has generated cash from operations of CN¥15b over the same time period, leading to an operating cash to total debt ratio of 39%, indicating that 135’s debt is appropriately covered by operating cash.
Does 135’s liquid assets cover its short-term commitments?
Looking at 135’s CN¥33b in current liabilities, the company may not be able to easily meet these obligations given the level of current assets of CN¥28b, with a current ratio of 0.84x. The current ratio is the number you get when you divide current assets by current liabilities.
Is 135’s debt level acceptable?
135 is a relatively highly levered company with a debt-to-equity of 57%. This is not unusual for mid-caps as debt tends to be a cheaper and faster source of funding for some businesses. We can test if 135’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For 135, the ratio of 11.91x suggests that interest is comfortably covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.
Next Steps:
135’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. However, its low liquidity raises concerns over whether current asset management practices are properly implemented for the mid-cap. This is only a rough assessment of financial health, and I’m sure 135 has company-specific issues impacting its capital structure decisions. I recommend you continue to research Kunlun Energy to get a more holistic view of the stock by looking at: