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. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.
So, the natural question for Aerpio Pharmaceuticals (NASDAQ:ARPO) 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). Let's start with an examination of the business's cash, relative to its cash burn.
When Might Aerpio Pharmaceuticals 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. When Aerpio Pharmaceuticals last reported its balance sheet in September 2019, it had zero debt and cash worth US$43m. Importantly, its cash burn was US$25m over the trailing twelve months. So it had a cash runway of approximately 20 months from September 2019. 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. However, if we extrapolate the company's recent cash burn trend, then it would have a longer cash run way. You can see how its cash balance has changed over time in the image below.
How Is Aerpio Pharmaceuticals's Cash Burn Changing Over Time?
Whilst it's great to see that Aerpio Pharmaceuticals has already begun generating revenue from operations, last year it only produced US$2.1k, so we don't think it is generating significant revenue, at this point. As a result, we think it's a bit early to focus on the revenue growth, so we'll limit ourselves to looking at how the cash burn is changing over time. Remarkably, it actually increased its cash burn by 496% in the last year. Given that sharp increase in spending, the company's cash runway will shrink rapidly as it depletes its cash reserves. 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 Aerpio Pharmaceuticals To Raise More Cash For Growth?
Given its cash burn trajectory, Aerpio Pharmaceuticals shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. 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.
Aerpio Pharmaceuticals's cash burn of US$25m is about 116% of its US$22m market capitalisation. That suggests the company may have some funding difficulties, and we'd be very wary of the stock.
How Risky Is Aerpio Pharmaceuticals's Cash Burn Situation?
Even though its cash burn relative to its market cap makes us a little nervous, we are compelled to mention that we thought Aerpio Pharmaceuticals's cash runway was relatively promising. 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. Notably, our data indicates that Aerpio Pharmaceuticals insiders have been trading the shares. You can discover if they are buyers or sellers by clicking on this link.
Of course Aerpio Pharmaceuticals 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.
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 firstname.lastname@example.org. 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.