Zero-debt allows substantial financial flexibility, especially for small-cap companies like FutureFuel Corp (NYSE:FF), 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. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean FF has outstanding financial strength. I recommend you look at the following hurdles to assess FF’s financial health. View our latest analysis for FutureFuel
Does FF’s growth rate justify its decision for financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. Though, the trade-offs are that lenders require stricter capital management requirements, in addition to having a higher claim on company assets relative to shareholders. FF’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. Opposite to the high growth we were expecting, FF’s negative revenue growth of -15.49% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Can FF pay its short-term liabilities?
Since FutureFuel 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. Looking at FF’s most recent $144.0M liabilities, it appears that the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 2.81x. Usually, for Chemicals companies, this is a suitable ratio as there’s enough of a cash buffer without holding too capital in low return investments.
As a high-growth company, it may be beneficial for FF to have some financial flexibility, hence zero-debt. Since there is also no concerns around FF’s liquidity needs, this may be its optimal capital structure for the time being. In the future, FF’s financial situation may change. Keep in mind I haven’t considered other factors such as how FF has been performing in the past. You should continue to research FutureFuel to get a more holistic view of the stock by looking at:
1. Valuation: What is FF 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 FF is currently mispriced by the market.
2. Historical Performance: What has FF’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.