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While small-cap stocks, such as Virscend Education Company Limited (HKG:1565) with its market cap of CN¥14.55b, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Assessing first and foremost the financial health is vital, since poor capital management may bring about bankruptcies, which occur at a higher rate for small-caps. Here are few basic financial health checks you should consider before taking the plunge. However, this commentary is still very high-level, so I suggest you dig deeper yourself into 1565 here.
How much cash does 1565 generate through its operations?
Over the past year, 1565 has reduced its debt from CN¥994.95m to CN¥919.04m , which is made up of current and long term debt. With this debt payback, 1565 currently has CN¥294.11m remaining in cash and short-term investments , ready to deploy into the business. Moreover, 1565 has generated cash from operations of CN¥521.62m over the same time period, leading to an operating cash to total debt ratio of 56.76%, meaning that 1565’s debt is appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In 1565’s case, it is able to generate 0.57x cash from its debt capital.
Can 1565 meet its short-term obligations with the cash in hand?
Looking at 1565’s most recent CN¥1.38b liabilities, it appears that the company has not been able to meet these commitments with a current assets level of CN¥340.35m, leading to a 0.25x current account ratio. which is under the appropriate industry ratio of 3x.
Can 1565 service its debt comfortably?
With debt at 34.29% of equity, 1565 may be thought of as appropriately levered. 1565 is not taking on too much debt commitment, which may be constraining for future growth. We can test if 1565’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 1565, the ratio of 10.57x suggests that interest is comfortably covered, which means that debtors may be willing to loan the company more money, giving 1565 ample headroom to grow its debt facilities.
Next Steps:
1565’s high cash coverage and appropriate debt levels indicate its ability to utilise its borrowings efficiently in order to generate ample cash flow. But, its lack of liquidity raises questions over current asset management practices for the small-cap. This is only a rough assessment of financial health, and I’m sure 1565 has company-specific issues impacting its capital structure decisions. I suggest you continue to research Virscend Education to get a better picture of the stock by looking at: