Quali-Smart Holdings Limited (SEHK:1348) is a small-cap stock with a market capitalization of HK$781.34M. While investors primarily focus on the growth potential and competitive landscape of the small-cap companies, they end up ignoring a key aspect, which could be the biggest threat to its existence: its financial health. Why is it important? Since 1348 is loss-making right now, it’s vital to assess the current state of its operations and pathway to profitability. I believe these basic checks tell most of the story you need to know. Though, this commentary is still very high-level, so I recommend you dig deeper yourself into 1348 here.
Does 1348 generate an acceptable amount of cash through operations?
Over the past year, 1348 has reduced its debt from HK$236.6M to HK$88.6M , which is made up of current and long term debt. With this debt payback, the current cash and short-term investment levels stands at HK$146.0M , ready to deploy into the business. On top of this, 1348 has generated HK$37.8M in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 0.43x, meaning that 1348’s debt is appropriately covered by operating cash. This ratio can also be a sign of operational efficiency for unprofitable companies since metrics such as return on asset (ROA) requires positive earnings. In 1348’s case, it is able to generate 0.43x cash from its debt capital.
Does 1348’s liquid assets cover its short-term commitments?
With current liabilities at HK$367.2M liabilities, the company has been able to meet these commitments with a current assets level of HK$552.7M, leading to a 1.51x current account ratio. Generally, for leisure companies, this is a reasonable ratio since there’s sufficient cash cushion without leaving too much capital idle or in low-earning investments.
Does 1348 face the risk of succumbing to its debt-load?
1348 is a relatively highly levered company with a debt-to-equity of 44.03%. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. However, since 1348 is currently loss-making, there’s a question of sustainability of its current operations. Maintaining a high level of debt, while revenues are still below costs, can be dangerous as liquidity tends to dry up in unexpected downturns.
Next Steps:
Are you a shareholder? Although 1348’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. 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, its financial position may be different. I suggest keeping abreast of market expectations for 1348’s future growth on our free analysis platform.