Zero-debt allows substantial financial flexibility, especially for small-cap companies like ICS Global Limited (ASX:ICS), as the company does not have to adhere to strict debt covenants. However, it also faces higher cost of capital given interest cost is generally lower than equity. While ICS has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I will go over a basic overview of the stock’s financial health, which I believe provides a ballpark estimate of their financial health status. View our latest analysis for ICS Global
Is financial flexibility worth the lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. But the downside of having debt in a company’s balance sheet is the debtholder’s higher claim on its assets in the case of liquidation, as well as stricter capital management requirements. The lack of debt on ICS’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 ICS is a high-growth company. ICS delivered a negative revenue growth of -10.05%. 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 ICS pay its short-term liabilities?
Since ICS Global 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. 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. With current liabilities at A$0.9M liabilities, the company has been able to meet these obligations given the level of current assets of A$2.8M, with a current ratio of 3.17x. Though, a ratio greater than 3x may be considered as too high, as ICS could be holding too much capital in a low-return investment environment.
Next Steps:
Are you a shareholder? Given that ICS Global is a relatively low-growth company, being in a zero-debt position isn’t always optimal. Shareholders should understand why the company isn’t opting for cheaper cost of capital to fund future growth, and whether the company needs financial flexibility at this point in time. I recommend taking a look into a future growth analysis to account for the company’s position.
Are you a potential investor? In terms of meeting is short term obligations, there’s nothing to worry about for ICS. However, its low sales growth means there’s potential to improve return on capital by taking on some debt and ramp up growth. Keep in mind I haven’t considered other factors such as how ICS has been performing in the past. For your next step, you should take a look at ICS’s past performance to conclude on ICS’s financial health.
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.