We can readily understand why investors are attracted to unprofitable companies. 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. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.
So should Proteostasis Therapeutics (NASDAQ:PTI) shareholders be worried about its cash burn? 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. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
How Long Is Proteostasis Therapeutics'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. When Proteostasis Therapeutics last reported its balance sheet in June 2019, it had zero debt and cash worth US$88m. Looking at the last year, the company burnt through US$65m. Therefore, from June 2019 it had roughly 16 months of cash runway. 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 Well Is Proteostasis Therapeutics Growing?
Some investors might find it troubling that Proteostasis Therapeutics is actually increasing its cash burn, which is up 30% in the last year. The good news is that operating revenue increased by 22% in the last year, indicating that the business is gaining some traction. On balance, we'd say the company is improving over time. Clearly, however, the crucial factor is whether the company will grow its business going forward. So you might want to take a peek at how much the company is expected to grow in the next few years.
How Easily Can Proteostasis Therapeutics Raise Cash?
While Proteostasis Therapeutics seems to be in a fairly good position, it's still worth considering how easily it could raise more cash, even just to fuel faster growth. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash to fund 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).
Since it has a market capitalisation of US$42m, Proteostasis Therapeutics's US$65m in cash burn equates to about 156% of its market value. That suggests the company may have some funding difficulties, and we'd be very wary of the stock.
Is Proteostasis Therapeutics's Cash Burn A Worry?
Even though its cash burn relative to its market cap makes us a little nervous, we are compelled to mention that we thought Proteostasis Therapeutics's revenue growth was relatively promising. Considering all the measures mentioned in this report, we reckon that its cash burn is fairly risky, and if we held shares we'd be watching like a hawk for any deterioration. 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 Proteostasis Therapeutics CEO receives in total remuneration.
Of course Proteostasis Therapeutics 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.
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