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We can readily understand why investors are attracted to unprofitable companies. By way of example, Elementos (ASX:ELT) has seen its share price rise 154% over the last year, delighting many shareholders. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.
So notwithstanding the buoyant share price, we think it's well worth asking whether Elementos' cash burn is too risky. In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
How Long Is Elementos' 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. As at December 2021, Elementos had cash of AU$3.9m and such minimal debt that we can ignore it for the purposes of this analysis. Importantly, its cash burn was AU$4.7m over the trailing twelve months. That means it had a cash runway of around 10 months as of December 2021. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. Importantly, if we extrapolate recent cash burn trends, the cash runway would be noticeably longer. The image below shows how its cash balance has been changing over the last few years.
How Is Elementos' Cash Burn Changing Over Time?
Although Elementos reported revenue of AU$99k last year, it didn't actually have any revenue from operations. That means we consider it a pre-revenue business, and we will focus our growth analysis on cash burn, for now. In fact, it ramped its spending strongly over the last year, increasing cash burn by 149%. It's fair to say that sort of rate of increase cannot be maintained for very long, without putting pressure on the balance sheet. Elementos makes us a little nervous due to its lack of substantial operating revenue. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.
How Hard Would It Be For Elementos To Raise More Cash For Growth?
Given its cash burn trajectory, Elementos shareholders should already be thinking about how easy it might be for it to raise further cash in the future. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. 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.
Elementos' cash burn of AU$4.7m is about 4.6% of its AU$104m market capitalisation. 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.
So, Should We Worry About Elementos' Cash Burn?
On this analysis of Elementos' cash burn, we think its cash burn relative to its market cap was reassuring, while its increasing cash burn has us a bit worried. We don't think its cash burn is particularly problematic, but after considering the range of factors in this article, we do think shareholders should be monitoring how it changes over time. Taking a deeper dive, we've spotted 5 warning signs for Elementos you should be aware of, and 2 of them are concerning.
Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of interesting companies, and this list of stocks growth stocks (according to analyst forecasts)
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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.