We're Not Very Worried About European Lithium's (ASX:EUR) Cash Burn Rate

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 the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.

Given this risk, we thought we'd take a look at whether European Lithium (ASX:EUR) shareholders should 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.

Check out the opportunities and risks within the AU Metals and Mining industry.

When Might European Lithium 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 2022, European Lithium had AU$33m in cash, and was debt-free. Importantly, its cash burn was AU$12m over the trailing twelve months. Therefore, from June 2022 it had 2.7 years of cash runway. Arguably, that's a prudent and sensible length of runway to have. Depicted below, you can see how its cash holdings have changed over time.

How Is European Lithium's Cash Burn Changing Over Time?

In our view, European Lithium doesn't yet produce significant amounts of operating revenue, since it reported just AU$177k in the last twelve months. 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. The skyrocketing cash burn up 118% year on year certainly tests our nerves. It's fair to say that sort of rate of increase cannot be maintained for very long, without putting pressure on the balance sheet. Admittedly, we're a bit cautious of European Lithium 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 Hard Would It Be For European Lithium To Raise More Cash For Growth?

Given its cash burn trajectory, European Lithium shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. 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.

Since it has a market capitalisation of AU$139m, European Lithium's AU$12m in cash burn equates to about 8.9% of its 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 European Lithium's Cash Burn A Worry?

It may already be apparent to you that we're relatively comfortable with the way European Lithium is burning through its cash. For example, we think its cash runway suggests that the company is on a good path. While we must concede that its increasing cash burn is a bit worrying, the other factors mentioned in this article provide great comfort when it comes to the cash burn. 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 4 warning signs for European Lithium (of which 2 are significant!) 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)

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.