Just because a business does not make any money, does not mean that the stock will go down. By way of example, Petratherm (ASX:PTR) has seen its share price rise 103% 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 Petratherm’s cash burn is too risky For the purposes of this article, cash burn is the annual rate at which an unprofitable company spends cash to fund its growth; its negative free cash flow. Let’s start with an examination of the business’s cash, relative to its cash burn.
Does Petratherm 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. In December 2019, Petratherm had AU$3.0m in cash, and was debt-free. Looking at the last year, the company burnt through AU$1.1m. That means it had a cash runway of about 2.7 years as of December 2019. Arguably, that’s a prudent and sensible length of runway to have. Depicted below, you can see how its cash holdings have changed over time.
How Is Petratherm’s Cash Burn Changing Over Time?
Because Petratherm isn’t currently generating revenue, we consider it an early-stage 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. Over the last year its cash burn actually increased by a very significant 62%. Oftentimes, increased cash burn simply means a company is accelerating its business development, but one should always be mindful that this causes the cash runway to shrink. Petratherm 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 Petratherm To Raise More Cash For Growth?
While Petratherm does have a solid cash runway, its cash burn trajectory may have some shareholders thinking 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. 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.
Petratherm has a market capitalisation of AU$11m and burnt through AU$1.1m last year, which is 11% of the company’s market value. Given that situation, it’s fair to say the company wouldn’t have much trouble raising more cash for growth, but shareholders would be somewhat diluted.
Is Petratherm’s Cash Burn A Worry?
It may already be apparent to you that we’re relatively comfortable with the way Petratherm is burning through its cash. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. Although its increasing cash burn does give us reason for pause, the other metrics we discussed in this article form a positive picture overall. Considering all the factors discussed in this article, we’re not overly concerned about the company’s cash burn, although we do think shareholders should keep an eye on how it develops. On another note, Petratherm has 2 warning signs (and 1 which can’t be ignored) we think you should know about.
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. 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. Thank you for reading.