There's no doubt that money can be made by owning shares of unprofitable businesses. For example, GWR Group (ASX:GWR) shareholders have done very well over the last year, with the share price soaring by 450%. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.
So notwithstanding the buoyant share price, we think it's well worth asking whether GWR Group's cash burn is too risky. 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. Let's start with an examination of the business' cash, relative to its cash burn.
How Long Is GWR Group's Cash Runway?
A cash runway is defined as the length of time it would take a company to run out of money if it kept spending at its current rate of cash burn. When GWR Group last reported its balance sheet in December 2020, it had zero debt and cash worth AU$5.2m. In the last year, its cash burn was AU$2.4m. Therefore, from December 2020 it had 2.2 years of cash runway. Arguably, that's a prudent and sensible length of runway to have. The image below shows how its cash balance has been changing over the last few years.
How Is GWR Group's Cash Burn Changing Over Time?
Whilst it's great to see that GWR Group has already begun generating revenue from operations, last year it only produced AU$516k, 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. With cash burn dropping by 17% it seems management feel the company is spending enough to advance its business plans at an appropriate pace. Admittedly, we're a bit cautious of GWR Group due to its lack of significant operating revenues. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.
How Hard Would It Be For GWR Group To Raise More Cash For Growth?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for GWR Group to raise more cash in the future. Companies can raise capital through either debt or equity. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash and fund 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$117m, GWR Group's AU$2.4m in cash burn equates to about 2.1% of its market value. That means it could easily issue a few shares to fund more growth, and might well be in a position to borrow cheaply.
How Risky Is GWR Group's Cash Burn Situation?
It may already be apparent to you that we're relatively comfortable with the way GWR Group is burning through its cash. For example, we think its cash burn relative to its market cap suggests that the company is on a good path. On this analysis its cash burn reduction was its weakest feature, but we are not concerned about it. Looking at all the measures in this article, together, we're not worried about its rate of cash burn; the company seems well on top of its medium-term spending needs. Taking a deeper dive, we've spotted 4 warning signs for GWR Group you should be aware of, and 1 of them makes us a bit uncomfortable.
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.
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