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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, Melbana Energy (ASX:MAY) shareholders have done very well over the last year, with the share price soaring by 133%. 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 Melbana Energy's cash burn is. In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. Let's start with an examination of the business' cash, relative to its cash burn.
How Long Is Melbana Energy's 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, Melbana Energy had cash of AU$6.9m and no debt. In the last year, its cash burn was AU$1.9m. So it had a cash runway of about 3.6 years from December 2020. A runway of this length affords the company the time and space it needs to develop the business. Depicted below, you can see how its cash holdings have changed over time.
How Is Melbana Energy's Cash Burn Changing Over Time?
Melbana Energy 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. Even though it doesn't get us excited, the 36% reduction in cash burn year on year does suggest the company can continue operating for quite some time. Admittedly, we're a bit cautious of Melbana Energy due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.
Can Melbana Energy Raise More Cash Easily?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Melbana Energy to raise more cash in the future. Companies can raise capital through either debt or equity. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash and fund 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.
Since it has a market capitalisation of AU$49m, Melbana Energy's AU$1.9m in cash burn equates to about 4.0% of its market value. That's a low proportion, so we figure the company would be able to raise more cash to fund growth, with a little dilution, or even to simply borrow some money.
So, Should We Worry About Melbana Energy's Cash Burn?
As you can probably tell by now, we're not too worried about Melbana Energy's cash burn. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. And even though its cash burn reduction wasn't quite as impressive, it was still a positive. After considering a range of factors in this article, we're pretty relaxed about its cash burn, since the company seems to be in a good position to continue to fund its growth. An in-depth examination of risks revealed 1 warning sign for Melbana Energy that readers should think about before committing capital to this stock.
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. 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.
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