Just because a business does not make any money, does not mean that the stock will go down. For example, although Amazon.com made losses for many years after listing, if you had bought and held the shares since 1999, you would have made a fortune. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.
Given this risk, we thought we'd take a look at whether Superior Lake Resources (ASX:SUP) 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'. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
How Long Is Superior Lake Resources's Cash Runway?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. When Superior Lake Resources last reported its balance sheet in June 2019, it had zero debt and cash worth AU$1.8m. In the last year, its cash burn was AU$5.4m. So it had a cash runway of approximately 4 months from June 2019. With a cash runway that short, we strongly believe that the company must raise cash or else douse its cash burn promptly. You can see how its cash balance has changed over time in the image below.
How Is Superior Lake Resources's Cash Burn Changing Over Time?
Whilst it's great to see that Superior Lake Resources has already begun generating revenue from operations, last year it only produced AU$24k, so we don't think it is generating significant revenue, at this point. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Remarkably, it actually increased its cash burn by 249% in the last year. With that kind of spending growth its cash runway will shorten quickly, as it simultaneously uses its cash while increasing the burn rate. Superior Lake Resources 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 Superior Lake Resources Raise Cash?
Since its cash burn is moving in the wrong direction, Superior Lake Resources shareholders may wish to think ahead to when the company may need to raise more cash. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. Commonly, a business will sell new shares in itself to raise cash to drive 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.
Since it has a market capitalisation of AU$16m, Superior Lake Resources's AU$5.4m in cash burn equates to about 33% of its market value. That's not insignificant, and if the company had to sell enough shares to fund another year's growth at the current share price, you'd likely witness fairly costly dilution.
How Risky Is Superior Lake Resources's Cash Burn Situation?
As you can probably tell by now, we're rather concerned about Superior Lake Resources's cash burn. Take, for example, its increasing cash burn, which suggests the company may have difficulty funding itself, in the future. And although we accept its cash burn relative to its market cap wasn't as worrying as its increasing cash burn, it was still a real negative; as indeed were all the factors we considered in this article. Looking at the metrics in this article all together, we consider its cash burn situation to be rather dangerous, and likely to cost shareholders one way or the other. Notably, our data indicates that Superior Lake Resources insiders have been trading the shares. You can discover if they are buyers or sellers by clicking on this link.
Of course Superior Lake 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.
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.