Zero-debt allows substantial financial flexibility, especially for small-cap companies like Xunlei Limited (NASDAQ:XNET), 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 XNET 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 XNET right in choosing financial flexibility over 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. XNET’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. XNET delivered a strikingly high revenue growth of 66.1% 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.
Can XNET meet its short-term obligations with the cash in hand?
Given zero long-term debt on its balance sheet, Xunlei 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. At the current liabilities level of US$106.6m liabilities, it appears that the company has been able to meet these obligations given the level of current assets of US$406.6m, with a current ratio of 3.81x. Though, a ratio greater than 3x may be considered as too high, as XNET could be holding too much capital in a low-return investment environment.
As a high-growth company, it may be beneficial for XNET 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, its financial position may change. This is only a rough assessment of financial health, and I’m sure XNET has company-specific issues impacting its capital structure decisions. I suggest you continue to research Xunlei to get a more holistic view of the stock by looking at:
- Valuation: What is XNET 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 XNET is currently mispriced by the market.
- Historical Performance: What has XNET’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.