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Here's Why We're Watching E2 Metals's (ASX:E2M) Cash Burn Situation

Simply Wall St

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, E2 Metals (ASX:E2M) has seen its share price rise 185% 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 E2 Metals shareholders to consider whether its cash burn is concerning. In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. Let's start with an examination of the business's cash, relative to its cash burn.

Check out our latest analysis for E2 Metals

How Long Is E2 Metals's Cash Runway?

A company's cash runway is the amount of time it would take to burn through its cash reserves at its current cash burn rate. As at June 2019, E2 Metals had cash of AU$3.9m and such minimal debt that we can ignore it for the purposes of this analysis. Looking at the last year, the company burnt through AU$2.2m. Therefore, from June 2019 it had roughly 22 months of cash runway. While that cash runway isn't too concerning, sensible holders would be peering into the distance, and considering what happens if the company runs out of cash. Depicted below, you can see how its cash holdings have changed over time.

ASX:E2M Historical Debt, November 2nd 2019

How Is E2 Metals's Cash Burn Changing Over Time?

Whilst it's great to see that E2 Metals has already begun generating revenue from operations, last year it only produced AU$39k, 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. In fact, it ramped its spending strongly over the last year, increasing cash burn by 149%. It's fair to say that sort of rate of increase cannot be maintained for very long, without putting pressure on the balance sheet. E2 Metals makes us a little nervous due to its lack of substantial operating revenue. We prefer most of the stocks on this list of stocks that analysts expect to grow.

How Easily Can E2 Metals Raise Cash?

Given its cash burn trajectory, E2 Metals shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. Many companies end up issuing new shares to fund future 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).

E2 Metals's cash burn of AU$2.2m is about 13% of its AU$17m market capitalisation. 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.

So, Should We Worry About E2 Metals's Cash Burn?

Even though its increasing cash burn makes us a little nervous, we are compelled to mention that we thought E2 Metals's cash runway was relatively promising. We don't think its cash burn is particularly problematic, but after considering the range of factors in this article, we do think shareholders should be monitoring how it changes over time. 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: E2 Metals insiders have been trading shares, according to our data. Click here to check whether insiders have been buying or selling.

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.