While small-cap stocks, such as Hardwoods Distribution Inc. (TSE:HDI) with its market cap of CA$277m, 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 crucial, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. We’ll look at some basic checks that can form a snapshot the company’s financial strength. Nevertheless, these checks don’t give you a full picture, so I suggest you dig deeper yourself into HDI here.
Does HDI Produce Much Cash Relative To Its Debt?
HDI has built up its total debt levels in the last twelve months, from CA$93m to CA$115m , which is mainly comprised of near term debt. With this increase in debt, HDI currently has CA$1.5m remaining in cash and short-term investments to keep the business going. Moreover, HDI has generated CA$4.0m in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 3.5%, meaning that HDI’s current level of operating cash is not high enough to cover debt.
Does HDI’s liquid assets cover its short-term commitments?
With current liabilities at CA$156m, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 2.2x. The current ratio is the number you get when you divide current assets by current liabilities. Usually, for Trade Distributors companies, this is a suitable ratio as there’s enough of a cash buffer without holding too much capital in low return investments.
Does HDI face the risk of succumbing to its debt-load?
With debt reaching 40% of equity, HDI may be thought of as relatively highly levered. This is a bit unusual for a small-cap stock, since they generally have a harder time borrowing than large more established companies. We can check to see whether HDI 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 HDI’s, case, the ratio of 12.08x suggests that interest is comfortably covered, which means that lenders may be willing to lend out more funding as HDI’s high interest coverage is seen as responsible and safe practice.
HDI’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. Since there is also no concerns around HDI’s liquidity needs, this may be its optimal capital structure for the time being. I admit this is a fairly basic analysis for HDI’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research Hardwoods Distribution to get a more holistic view of the small-cap by looking at:
- Future Outlook: What are well-informed industry analysts predicting for HDI’s future growth? Take a look at our free research report of analyst consensus for HDI’s outlook.
- Valuation: What is HDI 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 HDI 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.
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