Zero-debt allows substantial financial flexibility, especially for small-cap companies like TAT Technologies Ltd (NASDAQ:TATT), 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 TATT has no debt on its balance sheet, it doesn’t necessarily mean it exhibits financial strength. I recommend you look at the following hurdles to assess TATT’s financial health.
Is TATT right in choosing financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. However, the trade-off is debtholders’ higher claim on company assets in the event of liquidation and stringent obligations around capital management. Either TATT 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. Opposite to the high growth we were expecting, TATT’s negative revenue growth of -0.2% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Can TATT meet its short-term obligations with the cash in hand?
Since TAT Technologies 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. 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. Looking at TATT’s most recent US$14.9m liabilities, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 5.36x. However, a ratio greater than 3x may be considered as too high, as TATT could be holding too much capital in a low-return investment environment.
As a high-growth company, it may be beneficial for TATT to have some financial flexibility, hence zero-debt. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. Moving forward, TATT’s financial situation may change. I admit this is a fairly basic analysis for TATT’s financial health. Other important fundamentals need to be considered alongside. You should continue to research TAT Technologies to get a more holistic view of the stock by looking at:
- Future Outlook: What are well-informed industry analysts predicting for TATT’s future growth? Take a look at our free research report of analyst consensus for TATT’s outlook.
- Historical Performance: What has TATT’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.
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