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There's no doubt that money can be made by owning shares of unprofitable businesses. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. 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 Homology Medicines (NASDAQ:FIXX) shareholders should be worried about its cash burn. For the purpose of this article, we'll define cash burn as the amount of cash the company is spending each year to fund its growth (also called its negative free cash flow). Let's start with an examination of the business's cash, relative to its cash burn.
When Might Homology Medicines Run Out Of Money?
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. As at September 2019, Homology Medicines had cash of US$270m and no debt. Looking at the last year, the company burnt through US$107m. So it had a cash runway of about 2.5 years from September 2019. 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 Homology Medicines's Cash Burn Changing Over Time?
In our view, Homology Medicines doesn't yet produce significant amounts of operating revenue, since it reported just US$661k in the last twelve months. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Remarkably, it actually increased its cash burn by 392% in the last year. With that kind of spending growth its cash runway will shorten quickly, as it simultaneously uses its cash while increasing the burn rate. While the past is always worth studying, it is the future that matters most of all. So you might want to take a peek at how much the company is expected to grow in the next few years.
Can Homology Medicines Raise More Cash Easily?
Given its cash burn trajectory, Homology Medicines shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. Commonly, a business will sell new shares in itself to raise cash to 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).
Homology Medicines has a market capitalisation of US$910m and burnt through US$107m last year, which is 12% of the company's market value. Given that situation, it's fair to say the company wouldn't have much trouble raising more cash for growth, but shareholders would be somewhat diluted.
How Risky Is Homology Medicines's Cash Burn Situation?
Even though its increasing cash burn makes us a little nervous, we are compelled to mention that we thought Homology Medicines's cash runway was relatively promising. Cash burning companies are always on the riskier side of things, but after considering all of the factors discussed in this short piece, we're not too worried about its rate of cash burn. 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 Homology Medicines 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)
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.
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