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. But while the successes are well known, investors should not ignore the very many unprofitable companies that simply burn through all their cash and collapse.
Given this risk, we thought we'd take a look at whether Energy Resources of Australia (ASX:ERA) 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). We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.
How Long Is Energy Resources of Australia'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. When Energy Resources of Australia last reported its balance sheet in December 2021, it had zero debt and cash worth AU$164m. Looking at the last year, the company burnt through AU$38m. That means it had a cash runway of about 4.3 years as of December 2021. A runway of this length affords the company the time and space it needs to develop the business. You can see how its cash balance has changed over time in the image below.
How Well Is Energy Resources of Australia Growing?
Energy Resources of Australia actually ramped up its cash burn by a whopping 95% in the last year, which shows it is boosting investment in the business. While that's concerning on it's own, the fact that operating revenue was actually down 21% over the same period makes us positively tremulous. Taken together, we think these growth metrics are a little worrying. In reality, this article only makes a short study of the company's growth data. This graph of historic earnings and revenue shows how Energy Resources of Australia is building its business over time.
Can Energy Resources of Australia Raise More Cash Easily?
Even though it seems like Energy Resources of Australia is developing its business nicely, we still like to consider how easily it could raise more money to accelerate growth. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. Commonly, a business will sell new shares in itself to raise cash and drive 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.
Energy Resources of Australia has a market capitalisation of AU$960m and burnt through AU$38m last year, which is 4.0% of the company's market value. 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 Energy Resources of Australia's Cash Burn A Worry?
Even though its increasing cash burn makes us a little nervous, we are compelled to mention that we thought Energy Resources of Australia's cash runway was relatively promising. Considering all the factors discussed in this article, we're not overly concerned about the company's cash burn, although we do think shareholders should keep an eye on how it develops. Separately, we looked at different risks affecting the company and spotted 3 warning signs for Energy Resources of Australia (of which 2 don't sit too well with us!) you should know about.
Of course Energy Resources of Australia 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.
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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.