There's no doubt that money can be made by owning shares of unprofitable businesses. For example, Kalamazoo Resources (ASX:KZR) shareholders have done very well over the last year, with the share price soaring by 165%. 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 Kalamazoo Resources 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
When Might Kalamazoo Resources Run Out Of Money?
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. In June 2020, Kalamazoo Resources had AU$8.9m in cash, and was debt-free. In the last year, its cash burn was AU$4.5m. That means it had a cash runway of about 2.0 years as of June 2020. That's not too bad, but it's fair to say the end of the cash runway is in sight, unless cash burn reduces drastically. The image below shows how its cash balance has been changing over the last few years.
How Is Kalamazoo Resources' Cash Burn Changing Over Time?
Because Kalamazoo Resources isn't currently generating revenue, we consider it an early-stage business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. During the last twelve months, its cash burn actually ramped up 89%. While this spending increase is no doubt intended to drive growth, if the trend continues the company's cash runway will shrink very quickly. Admittedly, we're a bit cautious of Kalamazoo Resources due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.
How Easily Can Kalamazoo Resources Raise Cash?
Given its cash burn trajectory, Kalamazoo Resources shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. 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 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.
Kalamazoo Resources has a market capitalisation of AU$96m and burnt through AU$4.5m last year, which is 4.7% 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.
How Risky Is Kalamazoo Resources' Cash Burn Situation?
On this analysis of Kalamazoo Resources' cash burn, we think its cash burn relative to its market cap was reassuring, while its increasing cash burn has us a bit worried. Based on the factors mentioned in this article, we think its cash burn situation warrants some attention from shareholders, but we don't think they should be worried. Its important for readers to be cognizant of the risks that can affect the company's operations, and we've picked out 3 warning signs for Kalamazoo Resources that investors should know when investing in the stock.
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)
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email email@example.com.