There's no doubt that money can be made by owning shares of unprofitable businesses. 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. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.
So should Focus Minerals (ASX:FML) shareholders be worried about its cash burn? In this article, we define cash burn as its annual (negative) free cash flow, which is the amount of money a company spends each year to fund its growth. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
How Long Is Focus Minerals's Cash Runway?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. In June 2019, Focus Minerals had AU$18m in cash, and was debt-free. In the last year, its cash burn was AU$18m. Therefore, from June 2019 it had roughly 12 months of cash runway. While that cash runway isn't too concerning, sensible holders would be peering into the distance, and considering what happens if the company runs out of cash. You can see how its cash balance has changed over time in the image below.
How Is Focus Minerals's Cash Burn Changing Over Time?
In the last year, Focus Minerals did book revenue of AU$1.6m, but its revenue from operations was less, at just AU$1.1m. Given how low that operating leverage is, we think it's too early to put much weight on the revenue growth, so we'll focus on how the cash burn is changing, instead. The skyrocketing cash burn up 127% year on year certainly tests our nerves. That sort of spending growth rate can't continue for very long before it causes balance sheet weakness, generally speaking. Admittedly, we're a bit cautious of Focus Minerals 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 Focus Minerals To Raise More Cash For Growth?
Given its cash burn trajectory, Focus Minerals shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Companies can raise capital through either debt or equity. Many companies end up issuing new shares to fund future growth. We can compare a company's cash burn to its market capitalisation to get a sense for how many new shares a company would have to issue to fund one year's operations.
Focus Minerals has a market capitalisation of AU$40m and burnt through AU$18m last year, which is 44% of the company's market value. That's high expenditure relative to the value of the entire company, so if it does have to issue shares to fund more growth, that could end up really hurting shareholders returns (through significant dilution).
How Risky Is Focus Minerals's Cash Burn Situation?
On this analysis of Focus Minerals's cash burn, we think its cash runway was reassuring, while its increasing cash burn has us a bit worried. 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. While we always like to monitor cash burn for early stage companies, qualitative factors such as the CEO pay can also shed light on the situation. Click here to see free what the Focus Minerals CEO is paid..
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.
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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