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The direct benefit for MGM Wireless Limited (ASX:MWR), 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 MWR will have to adhere to stricter debt covenants and have less financial flexibility. While MWR 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.
Is MWR growing fast enough to value financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. Though, the trade-offs are that lenders require stricter capital management requirements, in addition to having a higher claim on company assets relative to shareholders. The lack of debt on MWR’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 MWR is a high-growth company. A single-digit revenue growth of 4.5% for MWR 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 MWR meet its short-term obligations with the cash in hand?
Given zero long-term debt on its balance sheet, MGM Wireless 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. With current liabilities at AU$886k, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 4.33x. However, a ratio greater than 3x may be considered high by some.
MWR is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. Since there is also no concerns around MWR’s liquidity needs, this may be its optimal capital structure for the time being. Moving forward, MWR’s financial situation may change. Keep in mind I haven’t considered other factors such as how MWR has been performing in the past. I recommend you continue to research MGM Wireless to get a better picture of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for MWR’s future growth? Take a look at our free research report of analyst consensus for MWR’s outlook.
- Historical Performance: What has MWR’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.
- 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 email@example.com.