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Here's Why Centrex Metals (ASX:CXM) Must Use Its Cash Wisely

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Just because a business does not make any money, does not mean that the stock will go down. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. 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 Centrex Metals (ASX:CXM) shareholders should 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'. We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.

See our latest analysis for Centrex Metals

Does Centrex Metals Have A Long Cash Runway?

A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at June 2019, Centrex Metals had cash of AU$5.3m and no debt. Looking at the last year, the company burnt through AU$10m. So it had a cash runway of approximately 6 months from June 2019. To be frank, this kind of short runway puts us on edge, as it indicates the company must reduce its cash burn significantly, or else raise cash imminently. We should note, however, that if we extrapolate recent trends in its cash burn, then its cash runway would get a lot longer. Depicted below, you can see how its cash holdings have changed over time.

ASX:CXM Historical Debt, November 18th 2019
ASX:CXM Historical Debt, November 18th 2019

How Is Centrex Metals's Cash Burn Changing Over Time?

Although Centrex Metals reported revenue of AU$43k last year, it didn't actually have any revenue from operations. That means we consider it a pre-revenue business, and we will focus our growth analysis on cash burn, for now. Over the last year its cash burn actually increased by a very significant 65%. While this spending increase is no doubt intended to drive growth, if the trend continues the company's cash runway will shrink very quickly. Admittedly, we're a bit cautious of Centrex Metals due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.

How Easily Can Centrex Metals Raise Cash?

Since its cash burn is moving in the wrong direction, Centrex Metals shareholders may wish to think ahead to when the company may need to raise more cash. 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 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.

Centrex Metals's cash burn of AU$10m is about 56% of its AU$18m market capitalisation. From this perspective, it seems that the company spent a hugh amount relative to its market value, and we'd be very wary of a painful capital raising.

Is Centrex Metals's Cash Burn A Worry?

As you can probably tell by now, we're rather concerned about Centrex Metals's cash burn. In particular, we think its cash runway suggests it isn't in a good position to keep funding growth. And although we accept its increasing cash burn wasn't as worrying as its cash runway, it was still a real negative; as indeed were all the factors we considered in this article. After considering the data discussed in this article, we don't have a lot of confidence that its cash burn rate is prudent, as it seems like it might need more cash soon. We think it's very important to consider the cash burn for loss making companies, but other considerations such as the amount the CEO is paid can also enhance your understanding of the business. You can click here to see what Centrex Metals's CEO gets paid each year.

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.

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.

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. Thank you for reading.