The direct benefit for OreCorp Limited (ASX:ORR), 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 ORR will have to adhere to stricter debt covenants and have less financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean ORR has outstanding financial strength. I recommend you look at the following hurdles to assess ORR’s financial health.
Is ORR right in choosing 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. The lack of debt on ORR’s balance sheet may be because it does not have access to cheap capital, or it may believe this trade-off is not worth it. Choosing financial flexibility over capital returns make sense if ORR is a high-growth company. A double-digit revenue growth of 22.5% is considered relatively high for a small-cap company like ORR. 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 ORR’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, OreCorp 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. At the current liabilities level of AU$617.4k liabilities, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 25.44x. Though, anything about 3x may be excessive, since ORR may be leaving too much capital in low-earning investments.
ORR is a fast-growing firm, which supports having have zero-debt and financial freedom to continue to ramp up growth. 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 be different. I admit this is a fairly basic analysis for ORR’s financial health. Other important fundamentals need to be considered alongside. I recommend you continue to research OreCorp to get a more holistic view of the stock by looking at:
- Historical Performance: What has ORR’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.