Melcor Developments Ltd. (TSE:MRD) is a small-cap stock with a market capitalization of CA$411m. 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? Assessing first and foremost the financial health is essential, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. I believe these basic checks tell most of the story you need to know. Nevertheless, I know these factors are very high-level, so I’d encourage you to dig deeper yourself into MRD here.
How much cash does MRD generate through its operations?
MRD has built up its total debt levels in the last twelve months, from CA$644m to CA$678m , which includes long-term debt. With this rise in debt, the current cash and short-term investment levels stands at CA$38m , ready to deploy into the business. Moreover, MRD has generated CA$1.4m in operating cash flow during the same period of time, resulting in an operating cash to total debt ratio of 0.2%, meaning that MRD’s operating cash is not sufficient to cover its debt. This ratio can also be a sign of operational efficiency as an alternative to return on assets. In MRD’s case, it is able to generate 0.002x cash from its debt capital.
Can MRD meet its short-term obligations with the cash in hand?
At the current liabilities level of CA$166m, it seems that the business has been able to meet these commitments with a current assets level of CA$936m, leading to a 5.64x current account ratio. However, a ratio above 3x may be considered excessive by some investors, yet this is not usually a major negative for a company.
Is MRD’s debt level acceptable?
With debt reaching 60% of equity, MRD may be thought of as relatively highly levered. This is not uncommon for a small-cap company given that debt tends to be lower-cost and at times, more accessible. We can test if MRD’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For MRD, the ratio of 4.36x suggests that interest is appropriately covered, which means that debtors may be willing to loan the company more money, giving MRD ample headroom to grow its debt facilities.
Although MRD’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. This is only a rough assessment of financial health, and I’m sure MRD has company-specific issues impacting its capital structure decisions. I suggest you continue to research Melcor Developments to get a more holistic view of the small-cap by looking at:
- Future Outlook: What are well-informed industry analysts predicting for MRD’s future growth? Take a look at our free research report of analyst consensus for MRD’s outlook.
- Valuation: What is MRD 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 MRD 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.
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.
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