We Think Red Sky Energy (ASX:ROG) Can Afford To Drive Business Growth

Just because a business does not make any money, does not mean that the stock will go down. 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 history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?

So should Red Sky Energy (ASX:ROG) shareholders be worried about its 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.

See our latest analysis for Red Sky Energy

Does Red Sky Energy Have A Long Cash Runway?

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, Red Sky Energy had cash of AU$7.0m and no debt. In the last year, its cash burn was AU$2.2m. That means it had a cash runway of about 3.2 years as of December 2021. There's no doubt that this is a reassuringly long runway. The image below shows how its cash balance has been changing over the last few years.

How Is Red Sky Energy's Cash Burn Changing Over Time?

Whilst it's great to see that Red Sky Energy has already begun generating revenue from operations, last year it only produced AU$98k, so we don't think it is generating significant revenue, at this point. As a result, we think it's a bit early to focus on the revenue growth, so we'll limit ourselves to looking at how the cash burn is changing over time. Remarkably, it actually increased its cash burn by 445% in the last year. Given that sharp increase in spending, the company's cash runway will shrink rapidly as it depletes its cash reserves. Admittedly, we're a bit cautious of Red Sky 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.

How Easily Can Red Sky Energy Raise Cash?

Given its cash burn trajectory, Red Sky Energy shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Companies can raise capital through either debt or equity. Many companies end up issuing new shares to fund future 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).

Red Sky Energy's cash burn of AU$2.2m is about 6.8% of its AU$32m market capitalisation. 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.

Is Red Sky Energy's Cash Burn A Worry?

It may already be apparent to you that we're relatively comfortable with the way Red Sky Energy is burning through its cash. For example, we think its cash runway suggests that the company is on a good path. Although we do find its increasing cash burn to be a bit of a negative, once we consider the other metrics mentioned in this article together, the overall picture is one we are comfortable with. Based on the factors mentioned in this article, we think its cash burn situation warrants some attention from shareholders, but we don't think they should be worried. Taking a deeper dive, we've spotted 4 warning signs for Red Sky Energy you should be aware of, and 2 of them shouldn't be ignored.

Of course Red Sky Energy 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.