The direct benefit for Hylea Metals Limited (ASX:HCO), 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 HCO will have to adhere to stricter debt covenants and have less financial flexibility. While HCO has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I recommend you look at the following hurdles to assess HCO’s financial health.
View our latest analysis for Hylea Metals
Is HCO right in choosing financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. Though, the trade-offs are that lenders require stricter capital management requirements, in addition to having a higher claim on company assets relative to shareholders. Either HCO 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. HCO’s revenue growth over the past year was an impressively high triple-digit rate, 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 HCO pay its short-term liabilities?
Since Hylea Metals 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. 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 AU$77.2k liabilities, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 23.46x. However, anything above 3x may be considered excessive by some investors. They might argue HCO is leaving too much capital in low-earning investments.
Next Steps:
HCO is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. Since there is also no concerns around HCO’s liquidity needs, this may be its optimal capital structure for the time being. Moving forward, its financial position may change. I admit this is a fairly basic analysis for HCO’s financial health. Other important fundamentals need to be considered alongside. You should continue to research Hylea Metals to get a more holistic view of the stock by looking at: