The direct benefit for De Grey Mining Limited (ASX:DEG), which sports a zero-debt capital structure, to include debt in its capital structure is the reduced cost of capital. However, the trade-off is DEG will have to adhere to stricter debt covenants and have less financial flexibility. While DEG has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I recommend you look at the following hurdles to assess DEG’s financial health.
Is DEG growing fast enough to value financial flexibility over lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. 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. DEG’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. DEG’s revenue growth over the past year was an impressively high triple-digit rate, 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.
Does DEG’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, De Grey Mining has no solvency issues, which is used to describe the company’s ability to meet its long-term obligations. However, another measure of financial health is its short-term obligations, which is known as liquidity. These include payments to suppliers, employees and other stakeholders. With current liabilities at AU$2.0m, the company may not have an easy time meeting these commitments with a current assets level of AU$1.5m, leading to a current ratio of 0.72x.
DEG is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. Though, the company’s low liquidity lowers our conviction around meeting short-term commitments. Some level of low-cost debt funding could help meet these needs. In the future, its financial position may change. Keep in mind I haven’t considered other factors such as how DEG has been performing in the past. I recommend you continue to research De Grey Mining to get a better picture of the stock by looking at:
- Valuation: What is DEG 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 DEG is currently mispriced by the market.
- Historical Performance: What has DEG’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.