The direct benefit for Ambition Group Limited (ASX:AMB), which sports a zero-debt capital structure, to include debt in its capital structure is the reduced cost of capital. However, the trade-off is AMB will have to adhere to stricter debt covenants and have less 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 will take you through a few basic checks to assess the financial health of companies with no debt. See our latest analysis for Ambition Group
Is AMB growing fast enough to value financial flexibility over lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. The lack of debt on AMB’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 AMB is a high-growth company. A single-digit revenue growth of 7.49% for AMB is considerably low for a small-cap company. While its low growth hardly justifies opting for zero-debt, the company may have high growth projects in the pipeline to justify the trade-off.
Can AMB meet its short-term obligations with the cash in hand?
Since Ambition Group 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. Looking at AMB’s most recent AU$10.80M liabilities, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 2.09x. Usually, for Professional Services 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.
Since AMB is a low-growth stock in terms of its revenues, not having any low-cost debt funding may not be optimal for the business. 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 admit this is a fairly basic analysis for AMB’s financial health. Other important fundamentals need to be considered alongside. You should continue to research Ambition Group to get a better picture of the stock by looking at:
- 1. Valuation: What is AMB worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether AMB is currently mispriced by the market.
- 2. Historical Performance: What has AMB’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.
- 3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.