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There's no doubt that money can be made by owning shares of unprofitable businesses. By way of example, Lake Resources ( ASX:LKE ) has seen its share price rise 973% over the last year, delighting many shareholders. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.
Given its strong share price performance, we think it's worthwhile for Lake Resources shareholders to consider whether its cash burn is concerning. In this article, we define cash burn as its annual (negative) free cash flow, which is the amount of money a company spends each year to fund its growth. Let's start with an examination of the business' cash, relative to its cash burn.
When Might Lake Resources Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. In June 2021, Lake Resources had AU$26m in cash, and was debt-free. Importantly, its cash burn was AU$3.9m over the trailing twelve months. So it had a cash runway of about 6.7 years from June 2021. While this is only one measure of its cash burn situation, it certainly gives us the impression that holders have nothing to worry about. You can see how its cash balance has changed over time in the image below.
How Is Lake Resources' Cash Burn Changing Over Time?
Lake 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. While it hardly paints a picture of imminent growth, the fact that it has reduced its cash burn by 43% over the last year suggests some degree of prudence. Clearly, however, the crucial factor is whether the company will grow its business going forward.
Can Lake Resources Raise More Cash Easily?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Lake Resources to raise more cash in the future. Companies can raise capital through either debt or equity. Commonly, a business will sell new shares in itself to raise cash and 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).
Lake Resources' cash burn of AU$3.9m is about 0.6% of its AU$648m market capitalisation. That means it could easily issue a few shares to fund more growth, and might well be in a position to borrow cheaply.
So, Should We Worry About Lake Resources' Cash Burn?
As you can probably tell by now, we're not too worried about Lake Resources' cash burn. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. And even its cash burn reduction was very encouraging. After considering a range of factors in this article, we're pretty relaxed about its cash burn, since the company seems to be in a good position to continue to fund its growth. On another note, Lake Resources has 4 warning signs (and 2 which are a bit unpleasant) we think you should know about.
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 .
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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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