The direct benefit for Carnavale Resources Limited (ASX:CAV), which sports a zero-debt capital structure, to include debt in its capital structure is the reduced cost of capital. However, the trade-off is CAV will have to adhere to stricter debt covenants and have less financial flexibility. While CAV has no debt on its balance sheet, it doesn’t necessarily mean it exhibits 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 CAV right in choosing financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. The lack of debt on CAV’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 CAV is a high-growth company. CAV delivered a strikingly high triple-digit revenue growth over the past year, 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 CAV’s liquid assets cover its short-term commitments?
Since Carnavale Resources 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. However, another measure of financial health is its short-term obligations, which is known as liquidity. These include payments to suppliers, employees and other stakeholders. With current liabilities at AU$64k, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 30.28x. However, many consider anything above 3x to be quite high.
CAV is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. Since there is also no concerns around CAV’s liquidity needs, this may be its optimal capital structure for the time being. Going forward, its financial position may be different. Keep in mind I haven’t considered other factors such as how CAV has been performing in the past. I recommend you continue to research Carnavale Resources to get a better picture of the stock by looking at:
- Historical Performance: What has CAV’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.
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 email@example.com.