Just because a business does not make any money, does not mean that the stock will go down. Indeed, EcoGraf (ASX:EGR) stock is up 323% in the last year, providing strong gains for shareholders. But while history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?
In light of its strong share price run, we think now is a good time to investigate how risky EcoGraf's cash burn is. 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). We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.
Does EcoGraf Have A Long 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. As at December 2020, EcoGraf had cash of AU$1.8m and no debt. Looking at the last year, the company burnt through AU$2.7m. Therefore, from December 2020 it had roughly 8 months of cash runway. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. Depicted below, you can see how its cash holdings have changed over time.
How Is EcoGraf's Cash Burn Changing Over Time?
EcoGraf didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. So while we can't look to sales to understand growth, we can look at how the cash burn is changing to understand how expenditure is trending over time. As it happens, the company's cash burn reduced by 20% over the last year, which suggests that management may be mindful of the risks of their depleting cash reserves. Admittedly, we're a bit cautious of EcoGraf 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 Hard Would It Be For EcoGraf 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 EcoGraf to raise more cash in the future. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. 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.
EcoGraf has a market capitalisation of AU$333m and burnt through AU$2.7m last year, which is 0.8% of the company's 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 EcoGraf's Cash Burn Situation?
On this analysis of EcoGraf's cash burn, we think its cash burn relative to its market cap was reassuring, while its cash runway has us a bit worried. Even though we don't think it has a problem with its cash burn, the analysis we've done in this article does suggest that shareholders should give some careful thought to the potential cost of raising more money in the future. On another note, EcoGraf has 6 warning signs (and 2 which are a bit concerning) we think you should know about.
If you would prefer to check out another company with better fundamentals, then do not miss this free list of interesting companies, that have HIGH return on equity and low debt or this list of stocks which are all forecast to grow.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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 editorial-team (at) simplywallst.com.