The direct benefit for Baker Technology Limited (SGX:BTP), 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 BTP 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. Check out our latest analysis for Baker Technology
Is BTP 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. The lack of debt on BTP’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 BTP is a high-growth company. BTP delivered a negative revenue growth of -60.20%. 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 BTP pay its short-term liabilities?
Given zero long-term debt on its balance sheet, Baker Technology 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 SGD8.5M liabilities, it appears that the company has been able to meet these commitments with a current assets level of SGD202.5M, leading to a 23.92x current account ratio. However, anything about 3x may be excessive, since BTP may be leaving too much capital in low-earning investments.
Next Steps:
Are you a shareholder? BTP’s soft top-line growth means having no debt on its balance sheet isn’t necessarily the best thing. As shareholders, you should try and determine whether this strategy is justified for BTP, and why financial flexibility is needed at this stage in its business cycle. You should take a look into a future growth analysis to properly assess what the market expects for the company moving forward.
Are you a potential investor? In terms of meeting is short term obligations, there’s nothing to worry about for BTP. But, its soft revenue growth could hurt returns, meaning there is some benefit to looking at low-cost funding alternatives. This is only a rough assessment of financial health, and I’m sure BTP has company-specific issues impacting its capital structure decisions. You should continue your analysis by taking a look at BTP’s past performance to figure out BTP’s financial health position.
To help readers see pass 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.