Strategic Energy Resources Limited (ASX:SER), 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 SER will have to follow strict debt obligations which will reduce its financial flexibility. While SER 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. See our latest analysis for Strategic Energy Resources
Is SER growing fast enough to value financial flexibility over 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. Either SER 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. SER delivered a negative revenue growth of -93.26%. 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.
Does SER’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, Strategic Energy Resources has no solvency issues, which is 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. Looking at SER’s most recent A$0.1M 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 2.64x. For metals and mining companies, this ratio is within a sensible range as there’s enough of a cash buffer without holding too capital in low return investments.
Next Steps:
Are you a shareholder? As SER’s revenues are not growing at a fast enough pace, being in a zero-debt position isn’t always optimal. As shareholders, you should try and determine whether this strategy is justified for SER, and whether the company needs financial flexibility at this point in time. You should take a look into a future growth analysis to account for what the market expects for the company moving forward.