Companies Like Legacy Iron Ore (ASX:LCY) Are In A Position To Invest In Growth

There's no doubt that money can be made by owning shares of unprofitable businesses. 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 the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.

So, the natural question for Legacy Iron Ore (ASX:LCY) shareholders is whether they should be concerned by its rate of 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. Let's start with an examination of the business' cash, relative to its cash burn.

View our latest analysis for Legacy Iron Ore

How Long Is Legacy Iron Ore's Cash Runway?

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 March 2022, Legacy Iron Ore had cash of AU$7.5m and no debt. Importantly, its cash burn was AU$3.3m over the trailing twelve months. Therefore, from March 2022 it had 2.3 years of cash runway. That's decent, giving the company a couple years to develop its business. Depicted below, you can see how its cash holdings have changed over time.

How Is Legacy Iron Ore's Cash Burn Changing Over Time?

Whilst it's great to see that Legacy Iron Ore has already begun generating revenue from operations, last year it only produced AU$321k, so we don't think it is generating significant revenue, at this point. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Over the last year its cash burn actually increased by 20%, which suggests that management are increasing investment in future growth, but not too quickly. However, the company's true cash runway will therefore be shorter than suggested above, if spending continues to increase. Admittedly, we're a bit cautious of Legacy Iron Ore 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 Legacy Iron Ore To Raise More Cash For Growth?

While Legacy Iron Ore does have a solid cash runway, its cash burn trajectory may have some shareholders thinking ahead to when the company may need to raise more cash. 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 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.

Legacy Iron Ore has a market capitalisation of AU$141m and burnt through AU$3.3m last year, which is 2.3% of the company's market value. That means it could easily issue a few shares to fund more growth, and might well be in a position to borrow cheaply.

Is Legacy Iron Ore's Cash Burn A Worry?

It may already be apparent to you that we're relatively comfortable with the way Legacy Iron Ore is burning through its cash. For example, we think its cash burn relative to its market cap suggests that the company is on a good path. Although its increasing cash burn does give us reason for pause, the other metrics we discussed in this article form a positive picture overall. 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. Its important for readers to be cognizant of the risks that can affect the company's operations, and we've picked out 1 warning sign for Legacy Iron Ore that investors should know when investing in the stock.

Of course Legacy Iron Ore 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.

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.