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. By way of example, DiaMedica Therapeutics (NASDAQ:DMAC) has seen its share price rise 112% over the last year, delighting many shareholders. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.
Given its strong share price performance, we think it's worthwhile for DiaMedica Therapeutics shareholders to consider whether its cash burn is concerning. For the purposes of this article, cash burn is the annual rate at which an unprofitable company spends cash to fund its growth; its negative free cash flow. Let's start with an examination of the business' cash, relative to its cash burn.
When Might DiaMedica Therapeutics 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. In September 2020, DiaMedica Therapeutics had US$31m in cash, and was debt-free. In the last year, its cash burn was US$8.0m. That means it had a cash runway of about 3.8 years as of September 2020. There's no doubt that this is a reassuringly long runway. The image below shows how its cash balance has been changing over the last few years.
How Is DiaMedica Therapeutics' Cash Burn Changing Over Time?
Because DiaMedica Therapeutics isn't currently generating revenue, we consider it an early-stage business. So while we can't look to sales to understand growth, we can look at how the cash burn is changing to understand how expenditure is trending over time. As it happens, the company's cash burn reduced by 12% over the last year, which suggests that management are maintaining a fairly steady rate of business development, albeit with a slight decrease in spending. While the past is always worth studying, it is the future that matters most of all. So you might want to take a peek at how much the company is expected to grow in the next few years.
Can DiaMedica Therapeutics Raise More Cash Easily?
While DiaMedica Therapeutics is showing a solid reduction in its cash burn, it's still worth considering how easily it could raise more cash, even just to fuel faster growth. 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 and 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.
DiaMedica Therapeutics has a market capitalisation of US$178m and burnt through US$8.0m last year, which is 4.5% of the company's market value. Given that is a rather small percentage, it would probably be really easy for the company to fund another year's growth by issuing some new shares to investors, or even by taking out a loan.
So, Should We Worry About DiaMedica Therapeutics' Cash Burn?
It may already be apparent to you that we're relatively comfortable with the way DiaMedica Therapeutics is burning through its cash. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. Its weak point is its cash burn reduction, but even that wasn't too bad! Looking at all the measures in this article, together, we're not worried about its rate of cash burn; the company seems well on top of its medium-term spending needs. On another note, DiaMedica Therapeutics has 4 warning signs (and 2 which make us uncomfortable) we think you should know about.
Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of interesting companies, and this list of stocks growth stocks (according to analyst forecasts)
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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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