Zeus Resources Limited (ASX:ZEU), 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 ZEU will have to follow strict debt obligations which will reduce its financial flexibility. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean ZEU has outstanding financial strength. I recommend you look at the following hurdles to assess ZEU’s financial health.
Is financial flexibility worth the lower cost of capital?
Debt funding can be cheaper than issuing new equity due to lower interest cost on debt. 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. ZEU’s absence of debt on its balance sheet may be due to lack of access to cheaper capital, or it may simply believe low cost is not worth sacrificing financial flexibility. However, choosing flexibility over capital returns is logical only if it’s a high-growth company. Opposite to the high growth we were expecting, ZEU’s negative revenue growth of -45.8% hardly justifies opting for zero-debt. If the decline sustains, it may find it hard to raise debt at an acceptable cost.
Does ZEU’s liquid assets cover its short-term commitments?
Given zero long-term debt on its balance sheet, Zeus Resources 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 AU$120.5k liabilities, it appears that the company has been able to meet these commitments with a current assets level of AU$2.0m, leading to a 16.5x current account ratio. However, a ratio greater than 3x may be considered as quite high, and some might argue ZEU could be holding too much capital in a low-return investment environment.
Having no debt on the books means ZEU has more financial freedom to keep growing at its current fast rate. Since there is also no concerns around ZEU’s liquidity needs, this may be its optimal capital structure for the time being. Moving forward, its financial position may change. Keep in mind I haven’t considered other factors such as how ZEU has been performing in the past. I recommend you continue to research Zeus Resources to get a more holistic view of the stock by looking at:
- Historical Performance: What has ZEU’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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