The direct benefit for Liquidity Services, Inc. (NASDAQ:LQDT), 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 LQDT will have to adhere to stricter debt covenants and have less financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean LQDT has outstanding financial strength. I recommend you look at the following hurdles to assess LQDT’s financial health.
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Does LQDT’s growth rate justify its decision for financial flexibility over 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. LQDT’s absence of debt on its balance sheet may be due to lack of access to cheaper capital, or it may simply believe low cost is not worth sacrificing financial flexibility. However, choosing flexibility over capital returns is logical only if it’s a high-growth company. Opposite to the high growth we were expecting, LQDT’s negative revenue growth of -17% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Does LQDT’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, Liquidity Services has no solvency issues, which is 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. At the current liabilities level of US$68m, it seems that the business has been able to meet these obligations given the level of current assets of US$103m, with a current ratio of 1.5x. For Online Retail companies, this ratio is within a sensible range as there’s enough of a cash buffer without holding too much capital in low return investments.
LQDT 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, LQDT’s financial situation may change. This is only a rough assessment of financial health, and I’m sure LQDT has company-specific issues impacting its capital structure decisions. You should continue to research Liquidity Services to get a better picture of the stock by looking at:
- Valuation: What is LQDT 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 LQDT is currently mispriced by the market.
- Historical Performance: What has LQDT’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 email@example.com.