Here's Why We're Not Too Worried About Talon Petroleum's (ASX:TPD) Cash Burn Situation

There's no doubt that money can be made by owning shares of unprofitable businesses. For example, although software-as-a-service business Salesforce.com lost money for years while it grew recurring revenue, if you held shares since 2005, you'd have done very well indeed. But while history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?

So should Talon Petroleum (ASX:TPD) shareholders be worried about its cash burn? For the purpose of this article, we'll define cash burn as the amount of cash the company is spending each year to fund its growth (also called its negative free cash flow). We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.

View our latest analysis for Talon Petroleum

When Might Talon Petroleum 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. In June 2020, Talon Petroleum had AU$1.5m in cash, and was debt-free. Looking at the last year, the company burnt through AU$1.1m. So it had a cash runway of approximately 15 months from June 2020. That's not too bad, but it's fair to say the end of the cash runway is in sight, unless cash burn reduces drastically. Depicted below, you can see how its cash holdings have changed over time.

How Is Talon Petroleum's Cash Burn Changing Over Time?

Whilst it's great to see that Talon Petroleum has already begun generating revenue from operations, last year it only produced AU$2.8k, 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. As it happens, the company's cash burn reduced by 3.5% over the last year, which suggests that management are maintaining a fairly steady rate of business development, albeit with a slight decrease in spending. Talon Petroleum 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.

Can Talon Petroleum Raise More Cash Easily?

Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Talon Petroleum 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 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).

Talon Petroleum has a market capitalisation of AU$27m and burnt through AU$1.1m last year, which is 4.3% of the company's 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.

Is Talon Petroleum's Cash Burn A Worry?

Talon Petroleum appears to be in pretty good health when it comes to its cash burn situation. Not only was its cash runway quite good, but its cash burn relative to its market cap was a real positive. Cash burning companies are always on the riskier side of things, but after considering all of the factors discussed in this short piece, we're not too worried about its rate of cash burn. Separately, we looked at different risks affecting the company and spotted 4 warning signs for Talon Petroleum (of which 2 are potentially serious!) you should know about.

Of course Talon Petroleum 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. 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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