There's no doubt that money can be made by owning shares of unprofitable businesses. 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. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.
Given this risk, we thought we'd take a look at whether TrovaGene (NASDAQ:TROV) shareholders should be worried about its cash burn. 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
How Long Is TrovaGene's Cash Runway?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at June 2019, TrovaGene had cash of US$11m and no debt. Looking at the last year, the company burnt through US$14m. Therefore, from June 2019 it had roughly 9 months of cash runway. To be frank, this kind of short runway puts us on edge, as it indicates the company must reduce its cash burn significantly, or else raise cash imminently. The image below shows how its cash balance has been changing over the last few years.
How Is TrovaGene's Cash Burn Changing Over Time?
In our view, TrovaGene doesn't yet produce significant amounts of operating revenue, since it reported just US$467k in the last twelve months. 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. It's possible that the 14% reduction in cash burn over the last year is evidence of management tightening their belts as cash reserves deplete. 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 Easily Can TrovaGene Raise Cash?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for TrovaGene to raise more cash in the future. Companies can raise capital through either debt or equity. Many companies end up issuing new shares to fund future 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.
TrovaGene's cash burn of US$14m is about 126% of its US$11m market capitalisation. Given just how high that expenditure is, relative to the company's market value, we think there's an elevated risk of funding distress, and we would be very nervous about holding the stock.
So, Should We Worry About TrovaGene's Cash Burn?
On this analysis of TrovaGene's cash burn, we think its cash burn reduction was reassuring, while its cash burn relative to its market cap has us a bit worried. Once we consider the metrics mentioned in this article together, we're left with very little confidence in the company's ability to manage its cash burn, and we think it will probably need more money. For us, it's always important to consider risks around cash burn rates. But investors should look at a whole range of factors when researching a new stock. For example, it could be interesting to see how much the TrovaGene CEO receives in total remuneration.
Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of companies insiders are buying, and this list of stocks growth stocks (according to analyst forecasts)
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If you spot an error that warrants correction, please contact the editor at email@example.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.