Even when a business is losing money, it's possible for shareholders to make money if they buy a good business at the right price. 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.
So should New Energy Metals (CVE:ENRG) shareholders be worried about its cash burn? In this article, we define cash burn as its annual (negative) free cash flow, which is the amount of money a company spends each year to fund its growth. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
When Might New Energy Metals Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. In December 2019, New Energy Metals had CA$107k in cash, and was debt-free. In the last year, its cash burn was CA$2.0m. That means it had a cash runway of under two months as of December 2019. It's extremely surprising to us that the company has allowed its cash runway to get that short! You can see how its cash balance has changed over time in the image below.
How Is New Energy Metals's Cash Burn Changing Over Time?
Because New Energy Metals isn't currently generating revenue, we consider it an early-stage business. So while we can't look to sales to understand growth, we can look at how the cash burn is changing to understand how expenditure is trending over time. The 57% reduction in its cash burn over the last twelve months could be interpreted as a sign that management are worried about running out of cash. New Energy Metals makes us a little nervous due to its lack of substantial operating revenue. We prefer most of the stocks on this list of stocks that analysts expect to grow.
How Hard Would It Be For New Energy Metals To Raise More Cash For Growth?
There's no doubt New Energy Metals's rapidly reducing cash burn brings comfort, but even if it's only hypothetical, it's always worth asking how easily it could raise more money to fund further growth. Companies can raise capital through either debt or equity. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash to fund growth. By comparing a company's annual cash burn to its total market capitalisation, we can estimate roughly how many shares it would have to issue in order to run the company for another year (at the same burn rate).
New Energy Metals's cash burn of CA$2.0m is about 172% of its CA$1.2m market capitalisation. Given just how high that expenditure is, relative to the company's market value, we think there's an elevated risk of funding distress, and we would be very nervous about holding the stock.
How Risky Is New Energy Metals's Cash Burn Situation?
There are no prizes for guessing that we think New Energy Metals's cash burn is a bit of a worry. In particular, we think its cash runway suggests it isn't in a good position to keep funding growth. But the silver lining was its cash burn reduction, which was encouraging. Looking at the metrics in this article all together, we consider its cash burn situation to be rather dangerous, and likely to cost shareholders one way or the other. Taking a deeper dive, we've spotted 4 warning signs for New Energy Metals you should be aware of, and 3 of them don't sit too well with us.
Of course New Energy Metals may not be the best stock to buy. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.