Collection House Limited (ASX:CLH) is a small-cap stock with a market capitalization of AU$211.97m. While investors primarily focus on the growth potential and competitive landscape of the small-cap companies, they end up ignoring a key aspect, which could be the biggest threat to its existence: its financial health. Why is it important? Evaluating financial health as part of your investment thesis is crucial, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. However, given that I have not delve into the company-specifics, I’d encourage you to dig deeper yourself into CLH here.
How does CLH’s operating cash flow stack up against its debt?
Over the past year, CLH has maintained its debt levels at around AU$123.38m comprising of short- and long-term debt. At this current level of debt, CLH currently has AU$48.49m remaining in cash and short-term investments for investing into the business. Additionally, CLH has generated AU$62.03m in operating cash flow in the last twelve months, leading to an operating cash to total debt ratio of 50.27%, meaning that CLH’s operating cash is sufficient to cover its debt. This ratio can also be a sign of operational efficiency as an alternative to return on assets. In CLH’s case, it is able to generate 0.5x cash from its debt capital.
Can CLH meet its short-term obligations with the cash in hand?
Looking at CLH’s most recent AU$17.27m liabilities, it appears that the company has been able to meet these obligations given the level of current assets of AU$60.90m, with a current ratio of 3.53x. However, anything about 3x may be excessive, since CLH may be leaving too much capital in low-earning investments.
Is CLH’s debt level acceptable?
With debt reaching 70.63% of equity, CLH may be thought of as relatively highly levered. This is not uncommon for a small-cap company given that debt tends to be lower-cost and at times, more accessible. We can test if CLH’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For CLH, the ratio of 6.42x suggests that interest is appropriately covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.
Although CLH’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. I admit this is a fairly basic analysis for CLH’s financial health. Other important fundamentals need to be considered alongside. You should continue to research Collection House to get a more holistic view of the small-cap by looking at:
- Future Outlook: What are well-informed industry analysts predicting for CLH’s future growth? Take a look at our free research report of analyst consensus for CLH’s outlook.
- Valuation: What is CLH 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 CLH is currently mispriced by the market.
- 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 pass 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.