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Here's Why Newfield Resources (ASX:NWF) Must Use Its Cash Wisely

Simply Wall St

There's no doubt that money can be made by owning shares of unprofitable businesses. 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.

So, the natural question for Newfield Resources (ASX:NWF) 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'.

View our latest analysis for Newfield Resources

When Might Newfield Resources Run Out Of Money?

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. Newfield Resources has such a small amount of debt that we'll set it aside, and focus on the AU$491k in cash it held at June 2019. In the last year, its cash burn was AU$15m. That means it had a cash runway of under two months as of June 2019. It's extremely surprising to us that the company has allowed its cash runway to get that short! The image below shows how its cash balance has been changing over the last few years.

ASX:NWF Historical Debt, February 5th 2020

How Is Newfield Resources's Cash Burn Changing Over Time?

Newfield Resources didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. Over the last year its cash burn actually increased by 23%, which suggests that management are increasing investment in future growth, but not too quickly. However, the company's true cash runway will therefore be shorter than suggested above, if spending continues to increase. Admittedly, we're a bit cautious of Newfield Resources due to its lack of significant operating revenues. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.

Can Newfield Resources Raise More Cash Easily?

Since its cash burn is moving in the wrong direction, Newfield Resources 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. 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).

Newfield Resources has a market capitalisation of AU$87m and burnt through AU$15m last year, which is 18% of the company's market value. As a result, we'd venture that the company could raise more cash for growth without much trouble, albeit at the cost of some dilution.

Is Newfield Resources's Cash Burn A Worry?

On this analysis of Newfield Resources's cash burn, we think its cash burn relative to its market cap was reassuring, while its cash runway has us a bit worried. 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. When you don't have traditional metrics like earnings per share and free cash flow to value a company, many are extra motivated to consider qualitative factors such as whether insiders are buying or selling shares. Please Note: Newfield Resources insiders have been trading shares, according to our data. Click here to check whether insiders have been buying or selling.

Of course Newfield Resources 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 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.