While small-cap stocks, such as Think Childcare Limited (ASX:TNK) with its market cap of AU$65m, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Evaluating financial health as part of your investment thesis is crucial, 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 TNK here.
How does TNK’s operating cash flow stack up against its debt?
TNK has built up its total debt levels in the last twelve months, from AU$12m to AU$21m , which accounts for long term debt. With this increase in debt, the current cash and short-term investment levels stands at AU$3.9m for investing into the business. Additionally, TNK has generated AU$3.7m in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 18%, signalling that TNK’s debt is not appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In TNK’s case, it is able to generate 0.18x cash from its debt capital.
Can TNK pay its short-term liabilities?
At the current liabilities level of AU$9.5m, the company arguably has a rather low level of current assets relative its obligations, with the current ratio last standing at 0.95x.
Does TNK face the risk of succumbing to its debt-load?
TNK is a relatively highly levered company with a debt-to-equity of 59%. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. We can check to see whether TNK is able to meet its debt obligations by looking at the net interest coverage ratio. A company generating earnings before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In TNK’s, case, the ratio of 7.97x suggests that interest is appropriately covered, which means that debtors may be willing to loan the company more money, giving TNK ample headroom to grow its debt facilities.
Although TNK’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet debt obligations which means its debt is being efficiently utilised. However, its low liquidity raises concerns over whether current asset management practices are properly implemented for the small-cap. Keep in mind I haven’t considered other factors such as how TNK has been performing in the past. I recommend you continue to research Think Childcare to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for TNK’s future growth? Take a look at our free research report of analyst consensus for TNK’s outlook.
- Valuation: What is TNK 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 TNK 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.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.