Merus N.V. (NASDAQ:MRUS), 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 MRUS 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 will take you through a few basic checks to assess the financial health of companies with no debt.
Is MRUS growing fast enough to value 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. Either MRUS 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. MRUS delivered a strikingly high revenue growth of 91% over the past year. 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.
Can MRUS meet its short-term obligations with the cash in hand?
Given zero long-term debt on its balance sheet, Merus 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. With current liabilities at €38m, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 5.3x. However, many consider a ratio above 3x to be high.
MRUS 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. Going forward, its financial position may be different. I admit this is a fairly basic analysis for MRUS's financial health. Other important fundamentals need to be considered alongside. You should continue to research Merus to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for MRUS’s future growth? Take a look at our free research report of analyst consensus for MRUS’s outlook.
- Valuation: What is MRUS 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 MRUS 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.