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Investors are always looking for growth in small-cap stocks like Virtusa Corporation (NASDAQ:VRTU), with a market cap of US$1.3b. However, an important fact which most ignore is: how financially healthy is the business? Assessing first and foremost the financial health is essential, since poor capital management may bring about bankruptcies, which occur at a higher rate for small-caps. We'll look at some basic checks that can form a snapshot the company’s financial strength. Nevertheless, this is not a comprehensive overview, so I recommend you dig deeper yourself into VRTU here.
Does VRTU Produce Much Cash Relative To Its Debt?
VRTU has built up its total debt levels in the last twelve months, from US$300m to US$366m , which accounts for long term debt. With this growth in debt, VRTU's cash and short-term investments stands at US$223m , ready to be used for running the business. On top of this, VRTU has generated US$69m in operating cash flow during the same period of time, resulting in an operating cash to total debt ratio of 19%, meaning that VRTU’s current level of operating cash is not high enough to cover debt.
Can VRTU meet its short-term obligations with the cash in hand?
With current liabilities at US$214m, it appears that the company has been able to meet these obligations given the level of current assets of US$580m, with a current ratio of 2.71x. The current ratio is calculated by dividing current assets by current liabilities. For IT companies, this ratio is within a sensible range since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Does VRTU face the risk of succumbing to its debt-load?
With debt reaching 70% of equity, VRTU may be thought of as relatively highly levered. This is a bit unusual for a small-cap stock, since they generally have a harder time borrowing than large more established companies. We can check to see whether VRTU 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 VRTU's, case, the ratio of 4.53x suggests that interest is appropriately covered, which means that lenders may be willing to lend out more funding as VRTU’s high interest coverage is seen as responsible and safe practice.
Although VRTU’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. Keep in mind I haven't considered other factors such as how VRTU has been performing in the past. I recommend you continue to research Virtusa to get a more holistic view of the small-cap by looking at:
- Future Outlook: What are well-informed industry analysts predicting for VRTU’s future growth? Take a look at our free research report of analyst consensus for VRTU’s outlook.
- Valuation: What is VRTU 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 VRTU 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.