Mersana Therapeutics, Inc. (NASDAQ:MRSN), which has zero-debt on its balance sheet, can maximize capital returns by increasing debt due to its lower cost of capital. However, the trade-off is MRSN will have to follow strict debt obligations which will reduce its financial flexibility. While zero-debt makes the due diligence for potential investors less nerve-racking, it poses a new question: how should they assess the financial strength of such companies? I will take you through a few basic checks to assess the financial health of companies with no debt.
Is MRSN growing fast enough to value financial flexibility over lower cost of capital?
Debt capital generally has lower cost of capital compared to equity funding. But the downside of having debt in a company’s balance sheet is the debtholder’s higher claim on its assets in the case of liquidation, as well as stricter capital management requirements. Either MRSN does not have access to cheap capital, or it may believe this trade-off is not worth it. This makes sense only if the company has a competitive edge and is growing fast off its equity capital. MRSN delivered a negative revenue growth of -52%. While its negative growth hardly justifies opting for zero-debt, if the decline sustains, it may find it hard to raise debt at an acceptable cost.
Does MRSN’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, Mersana Therapeutics 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 US$31m, it appears that the company has been able to meet these commitments with a current assets level of US$90m, leading to a 2.86x current account ratio. Generally, for Biotechs companies, this is a reasonable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.
Having no debt on the books means MRSN has more financial freedom to keep growing at its current fast rate. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Going forward, MRSN’s financial situation may change. This is only a rough assessment of financial health, and I’m sure MRSN has company-specific issues impacting its capital structure decisions. I recommend you continue to research Mersana Therapeutics to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for MRSN’s future growth? Take a look at our free research report of analyst consensus for MRSN’s outlook.
- Historical Performance: What has MRSN’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.