We can readily understand why investors are attracted to unprofitable companies. 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 history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?
So, the natural question for Geo (NZSE:GEO) shareholders is whether they should be concerned by its rate of 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). The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
How Long Is Geo'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. In June 2019, Geo had NZ$1.0m in cash, and was debt-free. Importantly, its cash burn was NZ$2.1m over the trailing twelve months. That means it had a cash runway of around 6 months as of June 2019. That's a very short cash runway which indicates an imminent need to douse the cash burn or find more funding. You can see how its cash balance has changed over time in the image below.
How Well Is Geo Growing?
It was fairly positive to see that Geo reduced its cash burn by 25% during the last year. And operating revenue was up by 18%, too. Considering the factors above, the company doesn’t fare badly when it comes to assessing how it is changing over time. In reality, this article only makes a short study of the company's growth data. This graph of historic earnings and revenue shows how Geo is building its business over time.
Can Geo Raise More Cash Easily?
Since Geo revenue has been falling, the market will likely be considering how it can raise more cash if need be. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. Commonly, a business will sell new shares in itself to raise cash to drive 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).
Geo's cash burn of NZ$2.1m is about 29% of its NZ$7.4m market capitalisation. That's fairly notable cash burn, so if the company had to sell shares to cover the cost of another year's operations, shareholders would suffer some costly dilution.
Is Geo's Cash Burn A Worry?
Even though its cash runway makes us a little nervous, we are compelled to mention that we thought Geo's revenue growth was relatively promising. Summing up, we think the Geo's cash burn is a risk, based on the factors we mentioned in this article. For us, it's always important to consider risks around cash burn rates. But investors should look at a whole range of factors when researching a new stock. For example, it could be interesting to see how much the Geo CEO receives in total remuneration.
Of course Geo 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.
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.
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