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Applied Optoelectronics, Inc. (NASDAQ:AAOI): Time For A Financial Health Check

Will Harmon

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Investors are always looking for growth in small-cap stocks like Applied Optoelectronics, Inc. (NASDAQ:AAOI), with a market cap of US$342m. However, an important fact which most ignore is: how financially healthy is the business? Companies operating in the Communications industry, even ones that are profitable, are inclined towards being higher risk. Assessing first and foremost the financial health is crucial. I believe these basic checks tell most of the story you need to know. However, I know these factors are very high-level, so I recommend you dig deeper yourself into AAOI here.

How much cash does AAOI generate through its operations?

AAOI’s debt levels surged from US$41m to US$71m over the last 12 months – this includes long-term debt. With this increase in debt, AAOI currently has US$62m remaining in cash and short-term investments for investing into the business. Additionally, AAOI has produced cash from operations of US$52m over the same time period, leading to an operating cash to total debt ratio of 74%, indicating that AAOI’s debt is appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In AAOI’s case, it is able to generate 0.74x cash from its debt capital.

Can AAOI meet its short-term obligations with the cash in hand?

With current liabilities at US$83m, it seems that the business has been able to meet these commitments with a current assets level of US$215m, leading to a 2.6x current account ratio. For Communications companies, this ratio is within a sensible range as there’s enough of a cash buffer without holding too much capital in low return investments.

NASDAQGM:AAOI Historical Debt February 4th 19

Does AAOI face the risk of succumbing to its debt-load?

With debt at 21% of equity, AAOI may be thought of as appropriately levered. This range is considered safe as AAOI is not taking on too much debt obligation, which may be constraining for future growth. We can check to see whether AAOI is able to meet its debt obligations by looking at the net interest coverage ratio. A company generating earnings before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In AAOI’s, case, the ratio of 28.71x suggests that interest is comfortably covered, which means that debtors may be willing to loan the company more money, giving AAOI ample headroom to grow its debt facilities.

Next Steps:

AAOI’s high cash coverage and appropriate debt levels indicate its ability to utilise its borrowings efficiently in order to generate ample cash flow. In addition to this, the company exhibits proper management of current assets and upcoming liabilities. This is only a rough assessment of financial health, and I’m sure AAOI has company-specific issues impacting its capital structure decisions. You should continue to research Applied Optoelectronics to get a better picture of the stock by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for AAOI’s future growth? Take a look at our free research report of analyst consensus for AAOI’s outlook.
  2. Valuation: What is AAOI worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether AAOI is currently mispriced by the market.
  3. 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.