Apart From Its Zero-Debt, What Else You Must Know About Alcidion Group Limited’s (ASX:ALC) Financial Health
Ashwin Virk January 23, 2017
The direct benefit for Alcidion Group Limited (ASX:ALC), which sports a zero-debt capital structure, to include debt in its capital structure is the reduced cost of capital. The cost of debt is always less than that of equity as debt-holders have a superior claim over the company’s assets. In addition, interest on debt brings down taxable income, reducing the tax paid.
A drop in the cost of capital beefs up a company’s valuation as the same is used to discount its future cash flows to arrive at the intrinsic value — an estimate of its worth right now. Precisely due to the same reason, companies raised debt in their capital structure with costs at record lows in a low interest rate environment. This improved their capital returns and they were rewarded with higher valuations.
On the flip side, given the interest-rate hikes are a part of the economic cycle, Alcidion Group will be in a stronger position compared to companies which would have to reduce debt due to rising interest-costs in such a scenario. 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? These are a few basic checks to assess the financial health of companies with no debt.
For small-cap companies such as ALC with its market cap of USD $40 Million, financial flexibility is a valuable option. And currently operating on a smaller scale, they’re not wrong in choosing it over improved total shareholder returns. However, choosing financial flexibility over capital returns is logical only if it’s a high-growth company. To fulfil this criteria, I expect a company to generate more than 20% revenue growth. In a complete contrast, ALC’s revenue contracted -21.46% over the past year. If the company is not expecting exceptional future growth, then its decision to avoid debt may cost shareholders dearly in the long-term.
Given zero long-term debt on its balance sheet, Alcidion Group has no solvency issues. Solvency is 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, which are mostly comprised of payments to suppliers, bank loans and debts due over the next twelve months. To cover them, a company must have more liquid assets than these obligations. In ALC’s case, its short-term assets of $8 Million exceed the short-term liabilities of $1 Million, indicating sound liquidity position.
