Companies Like Prominence Energy (ASX:PRM) Could Be Quite Risky

There's no doubt that money can be made by owning shares of unprofitable businesses. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. 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 Prominence Energy (ASX:PRM) shareholders be worried about its cash burn? 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.

View our latest analysis for Prominence Energy

When Might Prominence Energy Run Out Of Money?

You can calculate a company's cash runway by dividing the amount of cash it has by the rate at which it is spending that cash. As at December 2021, Prominence Energy had cash of AU$2.7m and such minimal debt that we can ignore it for the purposes of this analysis. Importantly, its cash burn was AU$4.8m over the trailing twelve months. That means it had a cash runway of around 7 months as of December 2021. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. The image below shows how its cash balance has been changing over the last few years.

How Is Prominence Energy's Cash Burn Changing Over Time?

Because Prominence Energy isn't currently generating revenue, we consider it an early-stage business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. Its cash burn positively exploded in the last year, up 468%. Given that sharp increase in spending, the company's cash runway will shrink rapidly as it depletes its cash reserves. Prominence Energy 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 Easily Can Prominence Energy Raise Cash?

Given its cash burn trajectory, Prominence Energy shareholders should already be thinking about how easy it might be for it to raise further cash in the future. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash and fund 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.

Prominence Energy's cash burn of AU$4.8m is about 17% of its AU$28m market capitalisation. As a result, we'd venture that the company could raise more cash for growth without much trouble, albeit at the cost of some dilution.

How Risky Is Prominence Energy's Cash Burn Situation?

On this analysis of Prominence Energy's cash burn, we think its cash burn relative to its market cap 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. Separately, we looked at different risks affecting the company and spotted 5 warning signs for Prominence Energy (of which 3 make us uncomfortable!) you should know about.

Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of companies insiders are buying, 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. 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.