Zero-debt allows substantial financial flexibility, especially for small-cap companies like Barnwell Industries Inc (NYSEMKT:BRN), as the company does not have to adhere to strict debt covenants. However, it also faces higher cost of capital given interest cost is generally lower than equity. 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. View out our latest analysis for Barnwell Industries
Is financial flexibility worth the lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. 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 BRN’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 BRN is a high-growth company. BRN delivered a negative revenue growth of -45.49%. 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.
Can BRN pay its short-term liabilities?
Since Barnwell Industries 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. With current liabilities at US$4.14m, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 5.5x. Though, anything above 3x is considered high and could mean that BRN has too much idle capital in low-earning investments.
As a high-growth company, it may be beneficial for BRN to have some financial flexibility, hence zero-debt. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Moving forward, its financial position may be different. I admit this is a fairly basic analysis for BRN’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research Barnwell Industries to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for BRN’s future growth? Take a look at our free research report of analyst consensus for BRN’s outlook.
- Historical Performance: What has BRN’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.