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Dechra Pharmaceuticals PLC (LON:DPH) is a small-cap stock with a market capitalization of UK£2.7b. While investors primarily focus on the growth potential and competitive landscape of the small-cap companies, they end up ignoring a key aspect, which could be the biggest threat to its existence: its financial health. Why is it important? Evaluating financial health as part of your investment thesis is crucial, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. Let’s work through some financial health checks you may wish to consider if you’re interested in this stock. However, potential investors would need to take a closer look, and I suggest you dig deeper yourself into DPH here.
Does DPH Produce Much Cash Relative To Its Debt?
DPH has built up its total debt levels in the last twelve months, from UK£175m to UK£317m , which accounts for long term debt. With this rise in debt, DPH’s cash and short-term investments stands at UK£87m , ready to be used for running the business. Moreover, DPH has generated cash from operations of UK£81m during the same period of time, leading to an operating cash to total debt ratio of 26%, meaning that DPH’s operating cash is sufficient to cover its debt.
Does DPH’s liquid assets cover its short-term commitments?
With current liabilities at UK£104m, the company has been able to meet these obligations given the level of current assets of UK£262m, with a current ratio of 2.51x. The current ratio is calculated by dividing current assets by current liabilities. For Pharmaceuticals companies, this ratio is within a sensible range since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Can DPH service its debt comfortably?
DPH is a relatively highly levered company with a debt-to-equity of 63%. This is a bit unusual for a small-cap stock, since they generally have a harder time borrowing than large more established companies. No matter how high the company’s debt, if it can easily cover the interest payments, it’s considered to be efficient with its use of excess leverage. A company generating earnings before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In DPH’s case, the ratio of 3.87x suggests that interest is appropriately covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.
DPH’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 DPH’s liquidity needs, this may be its optimal capital structure for the time being. This is only a rough assessment of financial health, and I’m sure DPH has company-specific issues impacting its capital structure decisions. I suggest you continue to research Dechra Pharmaceuticals to get a better picture of the small-cap by looking at:
- Future Outlook: What are well-informed industry analysts predicting for DPH’s future growth? Take a look at our free research report of analyst consensus for DPH’s outlook.
- Valuation: What is DPH 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 DPH 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.
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 firstname.lastname@example.org. 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.