Pelican Resources Limited (ASX:PEL), 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 PEL will have to follow strict debt obligations which will reduce its financial flexibility. While PEL 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. View our latest analysis for Pelican Resources
Is PEL growing fast enough to value financial flexibility over lower cost of capital?
There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. 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. PEL’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.
Can PEL meet its short-term obligations with the cash in hand?
What about its commitments to other stakeholders such as payments to suppliers and employees? In times of adverse events, PEL may need to liquidate its short-term assets to pay these immediate obligations. We test for PEL’s ability to meet these needs by comparing its cash and short-term investments with current liabilities. Our analysis shows that PEL is able to meet its upcoming commitments with its cash and other short-term assets, which lessens our concerns for the company’s business operations should any unfavourable circumstances arise.
Next Steps:
Are you a shareholder? Having no debt on the books means PEL 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. Moving forward, PEL’s financial situation may change. I suggest researching market expectations for PEL’s future growth.
Are you a potential investor? Pelican Resources is a fast-growing company, making financial flexibility a valuable option for the company. Furthermore, its high liquidity ensures the company will continue to operate smoothly should unfavourable circumstances arise. To gain more conviction in the stock, you need to also examine PEL’s track record. You should continue your analysis by taking a look at PEL’s past performance to conclude on PEL’s financial health.
To help readers see pass 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.