Pura Vida Energy NL (ASX:PVD), 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 PVD will have to follow strict debt obligations which will reduce its financial flexibility. While zero-debt makes the due diligence for potential investors less nerve-racking, it poses a new question: how should they assess the financial strength of such companies? 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 Pura Vida Energy
Does PVD’s growth rate justify its decision for financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. 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 PVD’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 PVD is a high-growth company. A double-digit revenue growth of 36.04% is considered relatively high for a small-cap company like PVD. So, it is acceptable that the company is opting for a zero-debt capital structure currently as it may need to raise debt to fuel expansion in the future.
Does PVD’s liquid assets cover its short-term commitments?
Since Pura Vida Energy 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. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. At the current liabilities level of A$3.1M liabilities, it appears that the company has been able to meet these obligations given the level of current assets of A$10.6M, with a current ratio of 3.41x. However, a ratio greater than 3x may be considered as too high, as PVD could be holding too much capital in a low-return investment environment.
Next Steps:
Are you a shareholder? As a high-growth company, it may be beneficial for PVD to have some financial flexibility, hence zero-debt. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Moving forward, PVD’s financial situation may change. I recommend keeping abreast of market expectations for PVD’s future growth.