HKE Holdings Limited (HKG:1726), which has zero-debt on its balance sheet, can maximize capital returns by increasing debt due to its lower cost of capital. However, the trade-off is 1726 will have to follow strict debt obligations which will reduce its 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 recommend you look at the following hurdles to assess 1726’s financial health.
Does 1726's growth rate justify its decision for financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. Either 1726 does not have access to cheap capital, or it may believe this trade-off is not worth it. This makes sense only if the company has a competitive edge and is growing fast off its equity capital. 1726 delivered a negative revenue growth of -6.8%. While its negative growth hardly justifies opting for zero-debt, if the decline sustains, it may find it hard to raise debt at an acceptable cost.
Does 1726’s liquid assets cover its short-term commitments?
Since HKE Holdings doesn’t have any debt on its balance sheet, it doesn’t have any solvency issues, which is a term 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. At the current liabilities level of S$2.0m, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 13.5x. Having said that, a ratio greater than 3x may be considered by some to be quite high, however this is not necessarily a negative for the company.
Having no debt on the books means 1726 has more financial freedom to keep growing at its current fast rate. Since there is also no concerns around 1726's liquidity needs, this may be its optimal capital structure for the time being. Moving forward, its financial position may change. I admit this is a fairly basic analysis for 1726's financial health. Other important fundamentals need to be considered alongside. You should continue to research HKE Holdings to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for 1726’s future growth? Take a look at our free research report of analyst consensus for 1726’s outlook.
- Valuation: What is 1726 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 1726 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.
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