Agilysys Inc (NASDAQ:AGYS), 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 AGYS will have to follow strict debt obligations which will reduce its financial flexibility. 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’ve put together a small checklist, which I believe provides a ballpark estimate of their financial health status. See our latest analysis for AGYS
Is financial flexibility worth the 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. The lack of debt on AGYS’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 AGYS is a high-growth company. A single-digit revenue growth of 0.93% for AGYS is considerably low for a small-cap company. More capital can help the business grow faster. If AGYS is not expecting exceptional future growth, then the decision to avoid may cost shareholders in the long term.
Can AGYS meet its short-term obligations with the cash in hand?
In addition to debtholders, a company must be able to pay its bills and salaries to keep the business running. As cash flow from operation is hindered by adverse events, AGYS may need to liquidate its short-term assets to meet these upcoming payments. We test for AGYS’s ability to meet these needs by comparing its cash and short-term investments with current liabilities. Our analysis shows that AGYS is able to meet its upcoming commitments with its cash and other short-term assets, which lessens our concerns for the company’s business operations should any unfavourable circumstances arise.
Are you a shareholder? Since AGYS is a low-growth stock in terms of its revenues, not taking advantage of lower cost debt may not be the best strategy. As an investor, you may want to figure out if there are company-specific reasons for not having any debt, and why financial flexibility is needed at this stage in its business cycle. I suggest you take a look into a future growth analysis to examine the company’s position.
Are you a potential investor? In terms of meeting is short term obligations, there’s nothing to worry about for AGYS. Though, a relatively low revenue growth could hurt returns, meaning there is some benefit to looking at low-cost funding alternatives. I admit this is a fairly basic analysis for AGYS’s financial health. Other important fundamentals need to be considered alongside. For your next step, you should take a look at AGYS’s past performance to conclude on AGYS’s financial health.