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Race Oncology Limited (ASX:RAC), which has zero-debt on its balance sheet, can maximize capital returns by increasing debt due to its lower cost of capital. However, the trade-off is RAC will have to follow strict debt obligations which will reduce its financial flexibility. While RAC 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 RAC’s financial health.
Check out our latest analysis for Race Oncology
Is financial flexibility worth the lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. 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 RAC 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.
Can RAC pay its short-term liabilities?
Given zero long-term debt on its balance sheet, Race Oncology 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. Looking at RAC’s most recent AU$310k liabilities, the company has been able to meet these commitments with a current assets level of AU$4m, leading to a 12.08x current account ratio. Having said that, a ratio greater than 3x may be considered as quite high, and some might argue RAC could be holding too much capital in a low-return investment environment.
Next Steps:
RAC 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 RAC’s liquidity needs, this may be its optimal capital structure for the time being. In the future, its financial position may be different. Keep in mind I haven’t considered other factors such as how RAC has been performing in the past. I suggest you continue to research Race Oncology to get a better picture of the stock by looking at:
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Historical Performance: What has RAC’s returns been like over the past? Go into more detail in the past track record analysis and take a look at the free visual representations of our analysis for more clarity.
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Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
To help readers see past 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. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.