While small-cap stocks, such as Vicon Holdings Limited (SEHK:3878) with its market cap of HK$504.00M, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. So, understanding the company’s financial health becomes vital, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. I believe these basic checks tell most of the story you need to know. However, since I only look at basic financial figures, I suggest you dig deeper yourself into 3878 here.
Does 3878 generate an acceptable amount of cash through operations?
Over the past year, 3878 has ramped up its debt from HK$25.2M to HK$58.5M , which comprises of short- and long-term debt. With this growth in debt, 3878’s cash and short-term investments stands at HK$34.4M for investing into the business. On top of this, 3878 has produced cash from operations of HK$16.0M in the last twelve months, leading to an operating cash to total debt ratio of 27.39%, meaning that 3878’s current level of operating cash is high enough to cover debt. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In 3878’s case, it is able to generate 0.27x cash from its debt capital.
Does 3878’s liquid assets cover its short-term commitments?
Looking at 3878’s most recent HK$118.2M liabilities, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.3x. Generally, for construction companies, this is a reasonable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Is 3878’s level of debt at an acceptable level?
With debt reaching 44.10% of equity, 3878 may be thought of as relatively highly levered. This is not uncommon for a small-cap company given that debt tends to be lower-cost and at times, more accessible. We can check to see whether 3878 is able to meet its debt obligations by looking at the net interest coverage ratio. A company generating earnings before interets and tax (EBIT) at least three times its net interest payments is considered financially sound. In 3878’s, case, the ratio of 18.67x suggests that interest is excessively covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.
Next Steps:
Are you a shareholder? 3878’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. Since there is also no concerns around 3878’s liquidity needs, this may be its optimal capital structure for the time being. In the future, its financial position may change. I recommend researching market expectations for 3878’s future growth on our free analysis platform.