We can readily understand why investors are attracted to unprofitable companies. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. 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 Diffusion Pharmaceuticals (NASDAQ:DFFN) 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). First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
Does Diffusion Pharmaceuticals Have A Long 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 December 2019, Diffusion Pharmaceuticals had cash of US$14m and no debt. Looking at the last year, the company burnt through US$9.9m. Therefore, from December 2019 it had roughly 17 months of cash runway. That's not too bad, but it's fair to say the end of the cash runway is in sight, unless cash burn reduces drastically. Depicted below, you can see how its cash holdings have changed over time.
How Is Diffusion Pharmaceuticals's Cash Burn Changing Over Time?
Diffusion Pharmaceuticals didn't record any revenue over the last year, indicating that it's an early stage company still developing its 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. With cash burn dropping by 8.5% it seems management feel the company is spending enough to advance its business plans at an appropriate pace. 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 Hard Would It Be For Diffusion Pharmaceuticals To Raise More Cash For Growth?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Diffusion Pharmaceuticals to raise more cash in the future. 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. 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.
Diffusion Pharmaceuticals's cash burn of US$9.9m is about 106% of its US$9.3m market capitalisation. That suggests the company may have some funding difficulties, and we'd be very wary of the stock.
Is Diffusion Pharmaceuticals's Cash Burn A Worry?
On this analysis of Diffusion Pharmaceuticals's cash burn, we think its cash runway was reassuring, while its cash burn relative to its market cap has us a bit worried. After looking at that range of measures, we think shareholders should be extremely attentive to how the company is using its cash, as the cash burn makes us uncomfortable. Separately, we looked at different risks affecting the company and spotted 4 warning signs for Diffusion Pharmaceuticals (of which 2 can't be ignored!) you should know about.
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