Even when a business is losing money, it's possible for shareholders to make money if they buy a good business at the right price. For example, although Amazon.com made losses for many years after listing, if you had bought and held the shares since 1999, you would have made a fortune. But while the successes are well known, investors should not ignore the very many unprofitable companies that simply burn through all their cash and collapse.
So should Protean Energy (ASX:POW) 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
When Might Protean Energy Run Out Of Money?
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 June 2019, Protean Energy had cash of AU$1.3m and no debt. Importantly, its cash burn was AU$1.7m over the trailing twelve months. Therefore, from June 2019 it had roughly 9 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. You can see how its cash balance has changed over time in the image below.
How Is Protean Energy's Cash Burn Changing Over Time?
Protean Energy didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. With the cash burn rate up 14% in the last year, it seems that the company is ratcheting up investment in the business over time. However, the company's true cash runway will therefore be shorter than suggested above, if spending continues to increase. Admittedly, we're a bit cautious of Protean Energy 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 Protean Energy To Raise More Cash For Growth?
Since its cash burn is moving in the wrong direction, Protean Energy shareholders may wish to think ahead to when the company may need to raise more cash. 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 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).
Protean Energy's cash burn of AU$1.7m is about 90% of its AU$1.9m market capitalisation. Given just how high that expenditure is, relative to the company's market value, we think there's an elevated risk of funding distress, and we would be very nervous about holding the stock.
Is Protean Energy's Cash Burn A Worry?
We must admit that we don't think Protean Energy is in a very strong position, when it comes to its cash burn. Although we can understand if some shareholders find its increasing cash burn acceptable, we can't ignore the fact that we consider its cash burn relative to its market cap to be downright troublesome. After considering the data discussed in this article, we don't have a lot of confidence that its cash burn rate is prudent, as it seems like it might need more cash soon. When you don't have traditional metrics like earnings per share and free cash flow to value a company, many are extra motivated to consider qualitative factors such as whether insiders are buying or selling shares. Please Note: Protean Energy insiders have been trading shares, according to our data. Click here to check whether insiders have been buying or selling.
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.
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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. Thank you for reading.