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Is Four Seas Mercantile Holdings Limited’s (HKG:374) Balance Sheet Strong Enough To Weather A Storm?

Wade Goff

Four Seas Mercantile Holdings Limited (SEHK:374) is a small-cap stock with a market capitalization of HK$1.33B. 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, since poor capital management may bring about 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, since I only look at basic financial figures, I’d encourage you to dig deeper yourself into 374 here.

Does 374 generate enough cash through operations?

Over the past year, 374 has reduced its debt from HK$1.11B to HK$1.01B , which is made up of current and long term debt. With this debt repayment, the current cash and short-term investment levels stands at HK$962.55M , ready to deploy into the business. On top of this, 374 has generated HK$76.24M in operating cash flow during the same period of time, leading to an operating cash to total debt ratio of 7.53%, signalling that 374’s debt is not appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In 374’s case, it is able to generate 0.075x cash from its debt capital.

Does 374’s liquid assets cover its short-term commitments?

With current liabilities at HK$1.32B, it seems that the business has been able to meet these commitments with a current assets level of HK$1.91B, leading to a 1.45x current account ratio. For Food companies, this ratio is within a sensible range since there’s sufficient cash cushion without leaving too much capital idle or in low-earning investments.

SEHK:374 Historical Debt May 15th 18

Does 374 face the risk of succumbing to its debt-load?

With a debt-to-equity ratio of 47.97%, 374 can be considered as an above-average leveraged company. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. We can check to see whether 374 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 374’s, case, the ratio of 6.15x suggests that interest is appropriately covered, which means that debtors may be willing to loan the company more money, giving 374 ample headroom to grow its debt facilities.

Next Steps:

At its current level of cash flow coverage, 374 has room for improvement to better cushion for events which may require debt repayment. However, the company exhibits proper management of current assets and upcoming liabilities. This is only a rough assessment of financial health, and I’m sure 374 has company-specific issues impacting its capital structure decisions. I recommend you continue to research Four Seas Mercantile Holdings to get a better picture of the stock by looking at:

  1. Valuation: What is 374 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 374 is currently mispriced by the market.
  2. Historical Performance: What has 374’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.
  3. 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.