The direct benefit for Petratherm Limited (ASX:PTR), 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 PTR 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 go over a basic overview of the stock’s financial health, which I believe provides a ballpark estimate of their financial health status. Check out our latest analysis for Petratherm
Is PTR right in choosing 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 PTR’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 PTR is a high-growth company. PTR delivered a strikingly high triple-digit revenue growth over the past year, therefore the company’s decision to choose financial flexibility is justified as it may need headroom to borrow in the future to sustain high growth.
Can PTR pay its short-term liabilities?
Given zero long-term debt on its balance sheet, Petratherm 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. Looking at PTR’s most recent AU$275.73k liabilities, the company has been able to meet these obligations given the level of current assets of AU$649.50k, with a current ratio of 2.36x. Generally, for Renewable Energy companies, this is a reasonable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Next Steps:
PTR 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 PTR’s liquidity needs, this may be its optimal capital structure for the time being. Going forward, PTR’s financial situation may change. This is only a rough assessment of financial health, and I’m sure PTR has company-specific issues impacting its capital structure decisions. I recommend you continue to research Petratherm to get a more holistic view of the stock by looking at:
- Historical Performance: What has PTR’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.