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Can Engagement Labs (CVE:EL) Afford To Invest In Growth?

Simply Wall St

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. 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.

So should Engagement Labs (CVE:EL) shareholders be worried about its cash burn? In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. Let's start with an examination of the business's cash, relative to its cash burn.

See our latest analysis for Engagement Labs

Does Engagement Labs Have A Long Cash Runway?

A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at September 2019, Engagement Labs had cash of CA$1.1m and no debt. In the last year, its cash burn was CA$3.0m. That means it had a cash runway of around 5 months as of September 2019. That's a very short cash runway which indicates an imminent need to douse the cash burn or find more funding. The image below shows how its cash balance has been changing over the last few years.

TSXV:EL Historical Debt, March 15th 2020

How Well Is Engagement Labs Growing?

We reckon the fact that Engagement Labs managed to shrink its cash burn by 37% over the last year is rather encouraging. Revenue also improved during the period, increasing by 6.0%. On balance, we'd say the company is improving over time. Of course, we've only taken a quick look at the stock's growth metrics, here. This graph of historic earnings and revenue shows how Engagement Labs is building its business over time.

How Easily Can Engagement Labs Raise Cash?

Given Engagement Labs's revenue is receding, there's a considerable chance it will eventually need to raise more money to spend on driving growth. Companies can raise capital through either debt or equity. Many companies end up issuing new shares to fund future growth. By looking at a company's cash burn relative to its market capitalisation, we gain insight on how much shareholders would be diluted if the company needed to raise enough cash to cover another year's cash burn.

Since it has a market capitalisation of CA$4.7m, Engagement Labs's CA$3.0m in cash burn equates to about 64% of its market value. Given how large that cash burn is, relative to the market value of the entire company, we'd consider it to be a high risk stock, with the real possibility of extreme dilution.

So, Should We Worry About Engagement Labs's Cash Burn?

On this analysis of Engagement Labs's cash burn, we think its cash burn reduction was reassuring, while its cash runway has us a bit worried. Once we consider the metrics mentioned in this article together, we're left with very little confidence in the company's ability to manage its cash burn, and we think it will probably need more money. On another note, we conducted an in-depth investigation of the company, and identified 5 warning signs for Engagement Labs (3 are significant!) that you should be aware of before investing here.

If you would prefer to check out another company with better fundamentals, then do not miss this free list of interesting companies, that have HIGH return on equity and low debt or this list of stocks which are all forecast to grow.

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.

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.