The direct benefit for Hövding Sverige AB (publ) (STO:HOVD), 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 HOVD 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 take you through a few basic checks to assess the financial health of companies with no debt.
Is HOVD right in choosing financial flexibility over lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. Though, the trade-offs are that lenders require stricter capital management requirements, in addition to having a higher claim on company assets relative to shareholders. Either HOVD 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. HOVD’s revenue growth over the past year is an impressively high double-digit 76%. So, it is acceptable that the company is opting for a zero-debt capital structure currently as it may need to raise debt to fuel expansion in the future.
Does HOVD’s liquid assets cover its short-term commitments?
Since Hövding Sverige 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 kr32m, it appears that the company has been able to meet these obligations given the level of current assets of kr110m, with a current ratio of 3.4x. Having said that, many consider a ratio above 3x to be high.
Having no debt on the books means HOVD has more financial freedom to keep growing at its current fast rate. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Going forward, HOVD’s financial situation may change. Keep in mind I haven’t considered other factors such as how HOVD has been performing in the past. I recommend you continue to research Hövding Sverige to get a more holistic view of the stock by looking at:
- Historical Performance: What has HOVD’s returns been like over the past? Go into more detail in the past track record analysis and take a look at the free visual representations of our analysis for more clarity.
- 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 firstname.lastname@example.org.