Zero-debt allows substantial financial flexibility, especially for small-cap companies like Man King Holdings Limited (SEHK:2193), 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 2193 has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I will take you through a few basic checks to assess the financial health of companies with no debt. See our latest analysis for Man King Holdings
Is 2193 growing fast enough to value financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. But the downside of having debt in a company’s balance sheet is the debtholder’s higher claim on its assets in the case of liquidation, as well as stricter capital management requirements. Either 2193 does not have access to cheap capital, or it may believe this trade-off is not worth it. This makes sense only if the company has a competitive edge and is growing fast off its equity capital. Opposite to the high growth we were expecting, 2193’s negative revenue growth of -10.24% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Can 2193 meet its short-term obligations with the cash in hand?
Given zero long-term debt on its balance sheet, Man King Holdings has no solvency issues, which is 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. At the current liabilities level of HK$54.4M liabilities, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 5.83x. However, anything about 3x may be excessive, since 2193 may be leaving too much capital in low-earning investments.
Next Steps:
As a high-growth company, it may be beneficial for 2193 to have some financial flexibility, hence zero-debt. Since there is also no concerns around 2193’s liquidity needs, this may be its optimal capital structure for the time being. Moving forward, 2193’s financial situation may change. Keep in mind I haven’t considered other factors such as how 2193 has been performing in the past. You should continue to research Man King Holdings to get a better picture of the stock by looking at:
1. Historical Performance: What has 2193’s returns been like over the past? Go into more detail in the past track record analysis and take a look at the free visual representations of our analysis for more clarity.