The direct benefit for Fu Yu Corporation Limited (SGX:F13), 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 F13 will have to adhere to stricter debt covenants and have less financial flexibility. While F13 has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I will take you through a few basic checks to assess the financial health of companies with no debt.
Is F13 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. 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 F13’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 F13 is a high-growth company. F13’s revenue growth over the past year is a single-digit 6.1% which is relatively low for a small-cap company. While its low growth hardly justifies opting for zero-debt, the company may have high growth projects in the pipeline to justify the trade-off.
Can F13 pay its short-term liabilities?
Given zero long-term debt on its balance sheet, Fu Yu has no solvency issues, which is 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 S$49m, the company has been able to meet these commitments with a current assets level of S$159m, leading to a 3.26x current account ratio. However, many consider a ratio above 3x to be high, although this is not necessarily a bad thing.
F13 is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. In the future, its financial position may change. I admit this is a fairly basic analysis for F13’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research Fu Yu to get a better picture of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for F13’s future growth? Take a look at our free research report of analyst consensus for F13’s outlook.
- Valuation: What is F13 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 F13 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.