Zero-debt allows substantial financial flexibility, especially for small-cap companies like Daktronics Inc (NASDAQ:DAKT), as the company does not have to adhere to strict debt covenants. However, it also faces higher cost of capital given interest cost is generally lower than equity. While zero-debt makes the due diligence for potential investors less nerve-racking, it poses a new question: how should they assess the financial strength of such companies? 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 DAKT growing fast enough to value financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. DAKT’s absence of debt on its balance sheet may be due to lack of access to cheaper capital, or it may simply believe low cost is not worth sacrificing financial flexibility. However, choosing flexibility over capital returns is logical only if it’s a high-growth company. DAKT delivered a negative revenue growth of -1.7%. While its negative growth hardly justifies opting for zero-debt, if the decline sustains, it may find it hard to raise debt at an acceptable cost.
Does DAKT’s liquid assets cover its short-term commitments?
Since Daktronics 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. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. At the current liabilities level of US$146m liabilities, it appears that the company has been able to meet these obligations given the level of current assets of US$279m, with a current ratio of 1.91x. Generally, for Electronic companies, this is a reasonable ratio as there’s enough of a cash buffer without holding too much capital in low return investments.
As a high-growth company, it may be beneficial for DAKT 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. Going forward, its financial position may change. Keep in mind I haven’t considered other factors such as how DAKT has been performing in the past. I suggest you continue to research Daktronics to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for DAKT’s future growth? Take a look at our free research report of analyst consensus for DAKT’s outlook.
- Valuation: What is DAKT 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 DAKT 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 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 firstname.lastname@example.org.