Energy Metals (ASX:EME) Is In A Strong Position To Grow Its Business

Just because a business does not make any money, does not mean that the stock will go down. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. But while history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?

So, the natural question for Energy Metals (ASX:EME) shareholders is whether they should be concerned by its rate of cash burn. 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' cash, relative to its cash burn.

Our analysis indicates that EME is potentially overvalued!

Does Energy Metals Have A Long Cash Runway?

A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at June 2022, Energy Metals had cash of AU$15m and no debt. In the last year, its cash burn was AU$1.0m. So it had a very long cash runway of many years from June 2022. While this is only one measure of its cash burn situation, it certainly gives us the impression that holders have nothing to worry about. You can see how its cash balance has changed over time in the image below.

How Is Energy Metals' Cash Burn Changing Over Time?

Although Energy Metals had revenue of AU$9.7k in the last twelve months, its operating revenue was only AU$4.6k in that time period. We don't think that's enough operating revenue for us to understand too much from revenue growth rates, since the company is growing off a low base. So we'll focus on the cash burn, today. Cash burn was pretty flat over the last year, which suggests that management are holding spending steady while the business advances its strategy. Energy Metals makes us a little nervous due to its lack of substantial operating revenue. We prefer most of the stocks on this list of stocks that analysts expect to grow.

How Easily Can Energy Metals Raise Cash?

Since its cash burn is increasing (albeit only slightly), Energy Metals shareholders should still be mindful of the possibility it will require more 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.

Energy Metals has a market capitalisation of AU$30m and burnt through AU$1.0m last year, which is 3.4% of the company's market value. 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.

Is Energy Metals' Cash Burn A Worry?

As you can probably tell by now, we're not too worried about Energy Metals' cash burn. For example, we think its cash runway suggests that the company is on a good path. While its increasing cash burn wasn't great, the other factors mentioned in this article more than make up for weakness on that measure. Looking at all the measures in this article, together, we're not worried about its rate of cash burn; the company seems well on top of its medium-term spending needs. Taking a deeper dive, we've spotted 4 warning signs for Energy Metals you should be aware of, and 2 of them are a bit unpleasant.

Of course Energy Metals may not be the best stock to buy. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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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.