The direct benefit for Kinder Morgan Canada Limited (TSE:KML), 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 KML will have to adhere to stricter debt covenants and have less financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean KML has outstanding financial strength. 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.
Is financial flexibility worth the lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. But the downside of having debt in a company’s balance sheet is the debtholder’s higher claim on its assets in the case of liquidation, as well as stricter capital management requirements. The lack of debt on KML’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 KML is a high-growth company. KML’s revenue growth over the past year is an impressively high double-digit 59%. 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.
Does KML’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, Kinder Morgan Canada has no solvency issues, which is used to describe the company’s ability to meet its long-term obligations. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. Looking at KML’s CA$412m in current liabilities, the company has been able to meet these obligations given the level of current assets of CA$4.4b, with a current ratio of 10.7x. However, many consider a ratio above 3x to be high.
As a high-growth company, it may be beneficial for KML to have some financial flexibility, hence zero-debt. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Moving forward, its financial position may be different. I admit this is a fairly basic analysis for KML’s financial health. Other important fundamentals need to be considered alongside. I recommend you continue to research Kinder Morgan Canada to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for KML’s future growth? Take a look at our free research report of analyst consensus for KML’s outlook.
- Valuation: What is KML 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 KML 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 email@example.com.