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Is AroCell (STO:AROC) In A Good Position To Invest In Growth?

Simply Wall St

We can readily understand why investors are attracted to unprofitable companies. For example, although Amazon.com made losses for many years after listing, if you had bought and held the shares since 1999, you would have made a fortune. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.

Given this risk, we thought we'd take a look at whether AroCell (STO:AROC) shareholders should be worried about its cash burn. For the purpose of this article, we'll define cash burn as the amount of cash the company is spending each year to fund its growth (also called its negative free cash flow). Let's start with an examination of the business's cash, relative to its cash burn.

See our latest analysis for AroCell

How Long Is AroCell's Cash Runway?

A company's cash runway is the amount of time it would take to burn through its cash reserves at its current cash burn rate. In September 2019, AroCell had kr19m in cash, and was debt-free. Importantly, its cash burn was kr16m over the trailing twelve months. Therefore, from September 2019 it had roughly 14 months of cash runway. While that cash runway isn't too concerning, sensible holders would be peering into the distance, and considering what happens if the company runs out of cash. The image below shows how its cash balance has been changing over the last few years.

OM:AROC Historical Debt, November 16th 2019

How Is AroCell's Cash Burn Changing Over Time?

In our view, AroCell doesn't yet produce significant amounts of operating revenue, since it reported just kr323k in the last twelve months. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Over the last year its cash burn actually increased by 8.8%, which suggests that management are increasing investment in future growth, but not too quickly. That's not necessarily a bad thing, but investors should be mindful of the fact that will shorten the cash runway. Admittedly, we're a bit cautious of AroCell due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.

How Hard Would It Be For AroCell To Raise More Cash For Growth?

While its cash burn is only increasing slightly, AroCell shareholders should still consider the potential need for further cash, down the track. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. Many companies end up issuing new shares to fund future 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).

AroCell's cash burn of kr16m is about 27% of its kr61m market capitalisation. That's not insignificant, and if the company had to sell enough shares to fund another year's growth at the current share price, you'd likely witness fairly costly dilution.

Is AroCell's Cash Burn A Worry?

Even though its cash burn relative to its market cap makes us a little nervous, we are compelled to mention that we thought AroCell's cash runway was relatively promising. Looking at the factors mentioned in this short report, we do think that its cash burn is a bit risky, and it does make us slightly nervous about the stock. While we always like to monitor cash burn for early stage companies, qualitative factors such as the CEO pay can also shed light on the situation. Click here to see free what the AroCell CEO is paid..

Of course AroCell 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.

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.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Thank you for reading.