Australian Vanadium Limited (ASX:AVL), 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 AVL will have to follow strict debt obligations which will reduce its financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean AVL has outstanding 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.
Is financial flexibility worth the 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. The lack of debt on AVL’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 AVL is a high-growth company. A revenue growth in the teens is not considered high-growth. AVL’s revenue growth of 20% falls into this range. More capital can help the business grow faster. If AVL is not expecting exceptional future growth, then the decision to avoid may cost shareholders in the long term.
Can AVL pay its short-term liabilities?
Given zero long-term debt on its balance sheet, Australian Vanadium has no solvency issues, which is 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. With current liabilities at AU$172k, it appears that the company has been able to meet these obligations given the level of current assets of AU$5m, with a current ratio of 31.16x. Having said that, anything above 3x may be considered excessive by some investors.
As a high-growth company, it may be beneficial for AVL 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. In the future, AVL’s financial situation may change. Keep in mind I haven’t considered other factors such as how AVL has been performing in the past. I suggest you continue to research Australian Vanadium to get a better picture of the stock by looking at:
- Historical Performance: What has AVL’s returns been like over the past? Go into more detail in the past track record analysis and take a look at the free visual representations of our analysis for more clarity.
- 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.
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