We're Keeping An Eye On Peak Rare Earths' (ASX:PEK) Cash Burn Rate

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.

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. In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.

View our latest analysis for Peak Rare Earths

Does Peak Rare Earths Have A Long Cash Runway?

A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at June 2022, Peak Rare Earths had cash of AU$9.5m and no debt. Looking at the last year, the company burnt through AU$12m. So it had a cash runway of approximately 9 months from June 2022. To be frank, this kind of short runway puts us on edge, as it indicates the company must reduce its cash burn significantly, or else raise cash imminently. The image below shows how its cash balance has been changing over the last few years.

How Is Peak Rare Earths' Cash Burn Changing Over Time?

Because Peak Rare Earths 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. In fact, it ramped its spending strongly over the last year, increasing cash burn by 177%. 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 Peak Rare Earths 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 Peak Rare Earths Raise Cash?

Since its cash burn is moving in the wrong direction, Peak Rare Earths shareholders may wish to think 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. Many companies end up issuing new shares to fund future growth. By comparing a company's annual cash burn to its total market capitalisation, we can estimate roughly how many shares it would have to issue in order to run the company for another year (at the same burn rate).

Peak Rare Earths has a market capitalisation of AU$98m and burnt through AU$12m last year, which is 13% of the company's market value. As a result, we'd venture that the company could raise more cash for growth without much trouble, albeit at the cost of some dilution.

How Risky Is Peak Rare Earths' Cash Burn Situation?

Even though its increasing cash burn makes us a little nervous, we are compelled to mention that we thought Peak Rare Earths' cash burn relative to its market cap was relatively promising. Summing up, we think the Peak Rare Earths' cash burn is a risk, based on the factors we mentioned in this article. Taking a deeper dive, we've spotted 6 warning signs for Peak Rare Earths you should be aware of, and 3 of them can't be ignored.

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.