Just because a business does not make any money, does not mean that the stock will go down. 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. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.
So should Elastic (NYSE:ESTC) 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. We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.
How Long Is Elastic's 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. When Elastic last reported its balance sheet in July 2019, it had zero debt and cash worth US$316m. In the last year, its cash burn was US$35m. Therefore, from July 2019 it had 8.9 years of cash runway. Even though this is but one measure of the company's cash burn, the thought of such a long cash runway warms our bellies in a comforting way. Depicted below, you can see how its cash holdings have changed over time.
How Well Is Elastic Growing?
Elastic boosted investment sharply in the last year, with cash burn ramping by 82%. While that certainly give us pause, we take a lot of comfort in the strong annual revenue growth of 65%. Considering the factors above, the company doesn’t fare badly when it comes to assessing how it is changing over time. While the past is always worth studying, it is the future that matters most of all. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.
How Easily Can Elastic Raise Cash?
While Elastic seems to be in a decent position, we reckon it is still worth thinking about how easily it could raise more cash, if that proved desirable. 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).
Elastic's cash burn of US$35m is about 0.5% of its US$6.6b market capitalisation. So it could almost certainly just borrow a little to fund another year's growth, or else easily raise the cash by issuing a few shares.
Is Elastic's Cash Burn A Worry?
It may already be apparent to you that we're relatively comfortable with the way Elastic is burning through its cash. In particular, we think its revenue growth stands out as evidence that the company is well on top of its spending. Although we do find its increasing cash burn to be a bit of a negative, once we consider the other metrics mentioned in this article together, the overall picture is one we are comfortable with. After taking into account the various metrics mentioned in this report, we're pretty comfortable with how the company is spending its cash, as it seems on track to meet its needs over the medium term. Notably, our data indicates that Elastic insiders have been trading the shares. You can discover if they are buyers or sellers by clicking on this link.
Of course Elastic may not be the best stock to buy. So you may wish to see this freecollection of companies boasting high return on equity, or this list of stocks that insiders are buying.
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If you spot an error that warrants correction, please contact the editor at email@example.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.