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Investors are always looking for growth in small-cap stocks like Incitec Pivot Limited (ASX:IPL), with a market cap of AU$5.5b. However, an important fact which most ignore is: how financially healthy is the business? Evaluating financial health as part of your investment thesis is vital, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. Let's work through some financial health checks you may wish to consider if you're interested in this stock. However, these checks don't give you a full picture, so I suggest you dig deeper yourself into IPL here.
Does IPL Produce Much Cash Relative To Its Debt?
Over the past year, IPL has ramped up its debt from AU$2.3b to AU$2.5b , which includes long-term debt. With this increase in debt, the current cash and short-term investment levels stands at AU$261m , ready to be used for running the business. Additionally, IPL has produced AU$766m in operating cash flow over the same time period, leading to an operating cash to total debt ratio of 31%, indicating that IPL’s operating cash is sufficient to cover its debt.
Does IPL’s liquid assets cover its short-term commitments?
At the current liabilities level of AU$2.4b, it appears that the company may not be able to easily meet these obligations given the level of current assets of AU$1.4b, with a current ratio of 0.58x. The current ratio is the number you get when you divide current assets by current liabilities.
Does IPL face the risk of succumbing to its debt-load?
With debt reaching 55% of equity, IPL may be thought of as relatively highly levered. This is somewhat unusual for small-caps companies, since lenders are often hesitant to provide attractive interest rates to less-established businesses. No matter how high the company’s debt, if it can easily cover the interest payments, it’s considered to be efficient with its use of excess leverage. A company generating earnings before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In IPL's case, the ratio of 3.02x suggests that interest is appropriately covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.
Although IPL’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet debt obligations which means its debt is being efficiently utilised. But, its low liquidity raises concerns over whether current asset management practices are properly implemented for the small-cap. This is only a rough assessment of financial health, and I'm sure IPL has company-specific issues impacting its capital structure decisions. I suggest you continue to research Incitec Pivot to get a better picture of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for IPL’s future growth? Take a look at our free research report of analyst consensus for IPL’s outlook.
- Valuation: What is IPL 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 IPL is currently mispriced by the market.
- 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.