Even when a business is losing money, it's possible for shareholders to make money if they buy a good business at the right price. For example, New World Resources (ASX:NWC) shareholders have done very well over the last year, with the share price soaring by 914%. But while the successes are well known, investors should not ignore the very many unprofitable companies that simply burn through all their cash and collapse.
Given its strong share price performance, we think it's worthwhile for New World Resources shareholders to consider whether its cash burn is concerning. 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). First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
When Might New World Resources 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, New World Resources had cash of AU$10m and no debt. In the last year, its cash burn was AU$5.7m. That means it had a cash runway of around 21 months as of December 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. 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 New World Resources' Cash Burn Changing Over Time?
In our view, New World Resources doesn't yet produce significant amounts of operating revenue, since it reported just AU$1.6k 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. During the last twelve months, its cash burn actually ramped up 90%. While this spending increase is no doubt intended to drive growth, if the trend continues the company's cash runway will shrink very quickly. Admittedly, we're a bit cautious of New World Resources 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 Hard Would It Be For New World Resources To Raise More Cash For Growth?
Given its cash burn trajectory, New World Resources 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. Commonly, a business will sell new shares in itself to raise cash and drive 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.
New World Resources' cash burn of AU$5.7m is about 5.8% of its AU$99m market capitalisation. Given that is a rather small percentage, it would probably be really easy for the company to fund another year's growth by issuing some new shares to investors, or even by taking out a loan.
Is New World Resources' Cash Burn A Worry?
On this analysis of New World Resources' cash burn, we think its cash burn relative to its market cap was reassuring, while its increasing cash burn has us a bit worried. While we're the kind of investors who are always a bit concerned about the risks involved with cash burning companies, the metrics we have discussed in this article leave us relatively comfortable about New World Resources' situation. Taking a deeper dive, we've spotted 5 warning signs for New World Resources you should be aware of, and 3 of them are concerning.
If you would prefer to check out another company with better fundamentals, then do not miss this free list of interesting companies, that have HIGH return on equity and low debt or this list of stocks which are all forecast to grow.
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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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