We Think E2 Metals (ASX:E2M) Can Afford To Drive Business Growth

We can readily understand why investors are attracted to unprofitable companies. 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. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.

Given this risk, we thought we'd take a look at whether E2 Metals (ASX:E2M) shareholders should be worried about its cash burn. In this article, we define cash burn as its annual (negative) free cash flow, which is the amount of money a company spends each year to fund its growth. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.

View our latest analysis for E2 Metals

When Might E2 Metals Run Out Of Money?

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. As at December 2020, E2 Metals had cash of AU$16m and no debt. Looking at the last year, the company burnt through AU$5.3m. That means it had a cash runway of about 2.9 years as of December 2020. That's decent, giving the company a couple years to develop its business. Importantly, if we extrapolate recent cash burn trends, the cash runway would be noticeably longer. Depicted below, you can see how its cash holdings have changed over time.

How Is E2 Metals' Cash Burn Changing Over Time?

Although E2 Metals reported revenue of AU$1.9k last year, it didn't actually have any revenue from operations. To us, that makes it a pre-revenue company, so we'll look to its cash burn trajectory as an assessment of its cash burn situation. During the last twelve months, its cash burn actually ramped up 66%. 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. Admittedly, we're a bit cautious of E2 Metals due to its lack of significant operating revenues. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.

How Easily Can E2 Metals Raise Cash?

Given its cash burn trajectory, E2 Metals 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. 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.

Since it has a market capitalisation of AU$39m, E2 Metals' AU$5.3m in cash burn equates to about 14% of its market value. 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.

Is E2 Metals' Cash Burn A Worry?

As you can probably tell by now, we're not too worried about E2 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. 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. Separately, we looked at different risks affecting the company and spotted 5 warning signs for E2 Metals (of which 2 are a bit unpleasant!) 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. 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.
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