Xenith IP Group Limited (ASX:XIP) is a small-cap stock with a market capitalization of A$105.57M. 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? Assessing first and foremost the financial health is essential, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. Though, this commentary is still very high-level, so I recommend you dig deeper yourself into XIP here.
Does XIP generate enough cash through operations?
Over the past year, XIP has ramped up its debt from A$4.0M to A$14.9M – this includes both the current and long-term debt. With this rise in debt, XIP’s cash and short-term investments stands at A$3.6M , ready to deploy into the business. On top of this, XIP has generated cash from operations of A$10.3M during the same period of time, resulting in an operating cash to total debt ratio of 69.45%, meaning that XIP’s operating cash is sufficient to cover its debt. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In XIP’s case, it is able to generate 0.69x cash from its debt capital.
Can XIP pay its short-term liabilities?
At the current liabilities level of A$25.4M liabilities, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.43x. Generally, for professional services companies, this is a reasonable ratio since there’s sufficient cash cushion without leaving too much capital idle or in low-earning investments.
Does XIP face the risk of succumbing to its debt-load?
With a debt-to-equity ratio of 10.43%, XIP’s debt level may be seen as prudent. This range is considered safe as XIP is not taking on too much debt obligation, which can be restrictive and risky for equity-holders. We can check to see whether XIP is able to meet its debt obligations by looking at the net interest coverage ratio. A company generating earnings before interets and tax (EBIT) at least three times its net interest payments is considered financially sound. In XIP’s, case, the ratio of 69.59x suggests that interest is excessively covered, which means that debtors may be willing to loan the company more money, giving XIP ample headroom to grow its debt facilities.