Companies Like Perpetual Resources (ASX:PEC) 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, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.

So, the natural question for Perpetual Resources (ASX:PEC) 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.

Check out our latest analysis for Perpetual Resources

Does Perpetual Resources Have A Long Cash Runway?

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. As at June 2021, Perpetual Resources had cash of AU$3.4m and no debt. Importantly, its cash burn was AU$1.7m over the trailing twelve months. Therefore, from June 2021 it had 2.0 years of cash runway. While that cash runway isn't too concerning, sensible holders would be peering into the distance, and considering what happens if the company runs out of cash. You can see how its cash balance has changed over time in the image below.

How Is Perpetual Resources' Cash Burn Changing Over Time?

Because Perpetual Resources isn't currently generating revenue, we consider it an early-stage business. So while we can't look to sales to understand growth, we can look at how the cash burn is changing to understand how expenditure is trending over time. The skyrocketing cash burn up 117% year on year certainly tests our nerves. That sort of spending growth rate can't continue for very long before it causes balance sheet weakness, generally speaking. Admittedly, we're a bit cautious of Perpetual 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 Easily Can Perpetual Resources Raise Cash?

While Perpetual Resources 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. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. 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.

Perpetual Resources' cash burn of AU$1.7m is about 4.8% of its AU$36m 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.

So, Should We Worry About Perpetual Resources' Cash Burn?

On this analysis of Perpetual 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 Perpetual Resources' situation. Taking a deeper dive, we've spotted 5 warning signs for Perpetual Resources you should be aware of, and 2 of them are concerning.

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.