The direct benefit for China Hanya Group Holdings Limited (SEHK:8312), 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 8312 will have to adhere to stricter debt covenants and have less 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 will go over a basic overview of the stock’s financial health, which I believe provides a ballpark estimate of their financial health status. Check out our latest analysis for China Hanya Group Holdings
Does 8312’s growth rate justify its decision for financial flexibility over lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. The lack of debt on 8312’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 8312 is a high-growth company. Opposite to the high growth we were expecting, 8312’s negative revenue growth of -57.46% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Can 8312 meet its short-term obligations with the cash in hand?
Since China Hanya Group 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. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. At the current liabilities level of HK$2.1M liabilities, the company has been able to meet these commitments with a current assets level of HK$39.1M, leading to a 18.45x current account ratio. However, anything above 3x is considered high and could mean that 8312 has too much idle capital in low-earning investments.
Are you a shareholder? As 8312’s revenues are not growing at a fast enough pace, having no debt on its balance sheet isn’t necessarily the best thing. Shareholders should understand why the company isn’t opting for cheaper cost of capital to fund future growth, and whether the company needs financial flexibility at this point in time. I suggest you take a look into a future growth analysis to properly assess what the market expects for the company moving forward.
Are you a potential investor? In terms of meeting is short term obligations, there’s nothing to worry about for 8312. Though, its low sales growth means there’s potential to improve return on capital by taking on some debt and ramp up growth. This is only a rough assessment of financial health, and I’m sure 8312 has company-specific issues impacting its capital structure decisions. I encourage you to continue your research by taking a look at 8312’s past performance in order to determine for yourself whether its zero-debt position is justified.