Sharda Motor Industries Limited (NSE:SHARDA), which has zero-debt on its balance sheet, can maximize capital returns by increasing debt due to its lower cost of capital. However, the trade-off is SHARDA will have to follow strict debt obligations which will reduce its financial flexibility. While SHARDA has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I recommend you look at the following hurdles to assess SHARDA’s financial health.
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Is SHARDA 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. SHARDA’s absence of debt on its balance sheet may be due to lack of access to cheaper capital, or it may simply believe low cost is not worth sacrificing financial flexibility. However, choosing flexibility over capital returns is logical only if it’s a high-growth company. A revenue growth in the teens is not considered high-growth. SHARDA’s revenue growth of 11% falls into this range. More capital can help the business grow faster. If SHARDA is not expecting exceptional future growth, then the decision to avoid may cost shareholders in the long term.
Can SHARDA meet its short-term obligations with the cash in hand?
Since Sharda Motor Industries 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. However, another measure of financial health is its short-term obligations, which is known as liquidity. These include payments to suppliers, employees and other stakeholders. With current liabilities at ₹2.2b, it seems that the business has been able to meet these commitments with a current assets level of ₹3.9b, leading to a 1.79x current account ratio. Usually, for Auto Components companies, this is a suitable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Next Steps:
SHARDA 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 SHARDA’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 SHARDA’s financial health. Other important fundamentals need to be considered alongside. I recommend you continue to research Sharda Motor Industries to get a more holistic view of the stock by looking at: