Date: Dec 11, 2017
Zero-debt allows substantial financial flexibility, especially for small-cap companies like Australian Vanadium Limited (ASX:AVL), 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. Zero-debt can alleviate some risk associated with the company meeting debt obligations, but this doesn’t automatically mean AVL has outstanding financial strength. I recommend you look at the following hurdles to assess AVL’s financial health.
See our latest analysis for AVL.

Is financial flexibility worth the lower cost of capital?

There are well-known benefits of including debt in capital structure, primarily a lower cost of capital. 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. AVL’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. AVL delivered a negative revenue growth of -36.86%. 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 AVL’s liquid assets cover its short-term commitments?

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