Investors are always looking for growth in small-cap stocks like Trident Limited (NSE:TRIDENT), with a market cap of ₹36b. However, an important fact which most ignore is: how financially healthy is the business? Assessing first and foremost the financial health is vital, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. Here are a few basic checks that are good enough to have a broad overview of the company’s financial strength. Nevertheless, since I only look at basic financial figures, I’d encourage you to dig deeper yourself into TRIDENT here.

How does TRIDENT’s operating cash flow stack up against its debt?

TRIDENT has sustained its debt level by about ₹28b over the last 12 months which accounts for long term debt. At this current level of debt, the current cash and short-term investment levels stands at ₹647m for investing into the business. On top of this, TRIDENT has generated ₹4.8b in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 17%, meaning that TRIDENT’s debt is not appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In TRIDENT’s case, it is able to generate 0.17x cash from its debt capital.

Can TRIDENT meet its short-term obligations with the cash in hand?

With current liabilities at ₹17b, it seems that the business has been able to meet these commitments with a current assets level of ₹18b, leading to a 1.08x current account ratio. Usually, for Luxury companies, this is a suitable ratio since there’s a sufficient cash cushion without leaving too much capital idle or in low-earning investments.

Is TRIDENT’s debt level acceptable?

TRIDENT is a relatively highly levered company with a debt-to-equity of 95%. This is not unusual for small-caps as debt tends to be a cheaper and faster source of funding for some businesses. We can test if TRIDENT’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For TRIDENT, the ratio of 5.32x suggests that interest is appropriately covered, which means that debtors may be willing to loan the company more money, giving TRIDENT ample headroom to grow its debt facilities.

Next Steps:

TRIDENT’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. Since there is also no concerns around TRIDENT’s liquidity needs, this may be its optimal capital structure for the time being. Keep in mind I haven’t considered other factors such as how TRIDENT has been performing in the past. I suggest you continue to research Trident to get a more holistic view of the small-cap by looking at:

1. Future Outlook: What are well-informed industry analysts predicting for TRIDENT’s future growth? Take a look at our free research report of analyst consensus for TRIDENT’s outlook.

2. Valuation: What is TRIDENT 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 TRIDENT is currently mispriced by the market.

3. 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 editorial-team@simplywallst.com.