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There's no doubt that money can be made by owning shares of unprofitable businesses. For example, although software-as-a-service business Salesforce.com lost money for years while it grew recurring revenue, if you held shares since 2005, you'd have done very well indeed. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.
Given this risk, we thought we'd take a look at whether New World Resources (ASX:NWC) shareholders should be worried about its cash burn. In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. Let's start with an examination of the business' cash, relative to its cash burn.
How Long Is New World Resources' Cash Runway?
A cash runway is defined as the length of time it would take a company to run out of money if it kept spending at its current rate of cash burn. As at June 2021, New World Resources had cash of AU$23m and no debt. Looking at the last year, the company burnt through AU$11m. That means it had a cash runway of about 2.2 years as of June 2021. That's decent, giving the company a couple years to develop its business. However, if we extrapolate the company's recent cash burn trend, then it would have a longer cash run way. The image below shows how its cash balance has been changing over the last few years.
How Is New World Resources' Cash Burn Changing Over Time?
In our view, New World Resources doesn't yet produce significant amounts of operating revenue, since it reported just AU$1.3k in the last twelve months. As a result, we think it's a bit early to focus on the revenue growth, so we'll limit ourselves to looking at how the cash burn is changing over time. In fact, it ramped its spending strongly over the last year, increasing cash burn by 183%. That sort of spending growth rate can't continue for very long before it causes balance sheet weakness, generally speaking. Admittedly, we're a bit cautious of New World Resources due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.
Can New World Resources Raise More Cash Easily?
While New World Resources does have a solid cash runway, its cash burn trajectory may have some shareholders thinking ahead to when the company may need to raise more cash. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash and fund growth. We can compare a company's cash burn to its market capitalisation to get a sense for how many new shares a company would have to issue to fund one year's operations.
New World Resources' cash burn of AU$11m is about 7.9% of its AU$135m market capitalisation. That's a low proportion, so we figure the company would be able to raise more cash to fund growth, with a little dilution, or even to simply borrow some money.
Is New World Resources' Cash Burn A Worry?
Even though its increasing cash burn makes us a little nervous, we are compelled to mention that we thought New World Resources' cash burn relative to its market cap was relatively promising. Cash burning companies are always on the riskier side of things, but after considering all of the factors discussed in this short piece, we're not too worried about its rate of cash burn. Separately, we looked at different risks affecting the company and spotted 3 warning signs for New World Resources (of which 2 are a bit concerning!) you should know about.
If you would prefer to check out another company with better fundamentals, then do not miss this free list of interesting companies, that have HIGH return on equity and low debt or this list of stocks which are all forecast to grow.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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