How Financially Strong Is EDAG Engineering Group AG (FRA:ED4)?

While small-cap stocks, such as EDAG Engineering Group AG (FRA:ED4) with its market cap of €369m, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Understanding the company's financial health becomes vital, 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. However, this is not a comprehensive overview, so I’d encourage you to dig deeper yourself into ED4 here.

Does ED4 Produce Much Cash Relative To Its Debt?

ED4's debt levels surged from €117m to €147m over the last 12 months – this includes long-term debt. With this growth in debt, ED4's cash and short-term investments stands at €64m , ready to be used for running the business. Additionally, ED4 has produced cash from operations of €69m over the same time period, leading to an operating cash to total debt ratio of 47%, signalling that ED4’s operating cash is sufficient to cover its debt.

Can ED4 meet its short-term obligations with the cash in hand?

At the current liabilities level of €175m, the company has been able to meet these commitments with a current assets level of €292m, leading to a 1.66x current account ratio. The current ratio is calculated by dividing current assets by current liabilities. Generally, for Auto Components companies, this is a reasonable ratio since there's a sufficient cash cushion without leaving too much capital idle or in low-earning investments.

Can ED4 service its debt comfortably?

With debt reaching 95% of equity, ED4 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 ED4 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 ED4's, case, the ratio of 7.22x suggests that interest is appropriately covered, which means that lenders may be willing to lend out more funding as ED4’s high interest coverage is seen as responsible and safe practice.

Next Steps:

ED4’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. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. I admit this is a fairly basic analysis for ED4's financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research EDAG Engineering Group to get a more holistic view of the small-cap by looking at:

1. Future Outlook: What are well-informed industry analysts predicting for ED4’s future growth? Take a look at our free research report of analyst consensus for ED4’s outlook.
2. Valuation: What is ED4 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 ED4 is currently mispriced by the market.
3. 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.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.