While small-cap stocks, such as Ariadne Australia Limited (ASX:ARA) with its market cap of AU$127.79m, 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, since I only look at basic financial figures, I suggest you dig deeper yourself into ARA here.
How does ARA’s operating cash flow stack up against its debt?
ARA’s debt levels surged from AU$3.99m to AU$7.74m over the last 12 months , which is made up of current and long term debt. With this increase in debt, the current cash and short-term investment levels stands at AU$56.35m , ready to deploy into the business. On top of this, ARA has produced cash from operations of AU$9.52m in the last twelve months, resulting in an operating cash to total debt ratio of 123.06%, signalling that ARA’s debt is appropriately covered by operating cash. This ratio can also be a sign of operational efficiency as an alternative to return on assets. In ARA’s case, it is able to generate 1.23x cash from its debt capital.
Does ARA’s liquid assets cover its short-term commitments?
Looking at ARA’s most recent AU$8.45m liabilities, it seems that the business has been able to meet these obligations given the level of current assets of AU$57.52m, with a current ratio of 6.81x. However, anything above 3x is considered high and could mean that ARA has too much idle capital in low-earning investments.
Is ARA’s debt level acceptable?ARA’s level of debt is low relative to its total equity, at 4.22%. This range is considered safe as ARA is not taking on too much debt obligation, which can be restrictive and risky for equity-holders. We can test if ARA’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 ARA, the ratio of 19.28x suggests that interest is comfortably covered, which means that debtors may be willing to loan the company more money, giving ARA ample headroom to grow its debt facilities.
ARA’s high cash coverage and low debt levels indicate its ability to utilise its borrowings efficiently in order to generate ample cash flow. Furthermore, the company exhibits proper management of current assets and upcoming liabilities. This is only a rough assessment of financial health, and I’m sure ARA has company-specific issues impacting its capital structure decisions. I recommend you continue to research Ariadne Australia to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for ARA’s future growth? Take a look at our free research report of analyst consensus for ARA’s outlook.
- Valuation: What is ARA 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 ARA is currently mispriced by the market.
- 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.