Zero-debt allows substantial financial flexibility, especially for small-cap companies like MicroStrategy Incorporated (NASDAQ:MSTR), as the company does not have to adhere to strict debt covenants. However, it also faces higher cost of capital given interest cost is generally lower than equity. While MSTR has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I will take you through a few basic checks to assess the financial health of companies with no debt.
Is MSTR 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 MSTR’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 MSTR is a high-growth company. Opposite to the high growth we were expecting, MSTR’s negative revenue growth of -0.9% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Can MSTR meet its short-term obligations with the cash in hand?
Since MicroStrategy doesn’t have any debt on its balance sheet, it doesn’t have any solvency issues, which is a term used to describe the company’s ability to meet its long-term obligations. But another important aspect of financial health is liquidity: the company’s ability to meet short-term obligations, including payments to suppliers and employees. At the current liabilities level of US$212m, it seems that the business has been able to meet these commitments with a current assets level of US$838m, leading to a 3.96x current account ratio. Having said that, many consider a ratio above 3x to be high.
Having no debt on the books means MSTR 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, its financial position may be different. Keep in mind I haven’t considered other factors such as how MSTR has been performing in the past. I recommend you continue to research MicroStrategy to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for MSTR’s future growth? Take a look at our free research report of analyst consensus for MSTR’s outlook.
- Valuation: What is MSTR 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 MSTR 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.
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.