We're Hopeful That Peak Rare Earths (ASX:PEK) Will Use Its Cash Wisely

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. 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 Peak Rare Earths (ASX:PEK) shareholders should be worried about its cash burn. 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). We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.

See our latest analysis for Peak Rare Earths

When Might Peak Rare Earths 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. As at June 2023, Peak Rare Earths had cash of AU$26m and no debt. In the last year, its cash burn was AU$9.6m. That means it had a cash runway of about 2.7 years as of June 2023. 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 Peak Rare Earths' Cash Burn Changing Over Time?

Peak Rare Earths didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. While it hardly paints a picture of imminent growth, the fact that it has reduced its cash burn by 22% over the last year suggests some degree of prudence. Clearly, however, the crucial factor is whether the company will grow its business going forward. So you might want to take a peek at how much the company is expected to grow in the next few years.

Can Peak Rare Earths Raise More Cash Easily?

Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Peak Rare Earths to raise more cash in the future. Companies can raise capital through either debt or equity. Many companies end up issuing new shares to fund future 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.

Peak Rare Earths has a market capitalisation of AU$110m and burnt through AU$9.6m last year, which is 8.7% of the company's market value. 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.

How Risky Is Peak Rare Earths' Cash Burn Situation?

It may already be apparent to you that we're relatively comfortable with the way Peak Rare Earths is burning through its cash. For example, we think its cash runway suggests that the company is on a good path. Its cash burn reduction wasn't quite as good, but was still rather encouraging! Looking at all the measures in this article, together, we're not worried about its rate of cash burn; the company seems well on top of its medium-term spending needs. On another note, we conducted an in-depth investigation of the company, and identified 3 warning signs for Peak Rare Earths (1 is potentially serious!) that you should be aware of before investing here.

Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of companies insiders are buying, 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.