We Think Clarity Pharmaceuticals (ASX:CU6) Can Easily Afford To Drive Business Growth

We can readily understand why investors are attracted to unprofitable companies. Indeed, Clarity Pharmaceuticals (ASX:CU6) stock is up 655% in the last year, providing strong gains for shareholders. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.

Given its strong share price performance, we think it's worthwhile for Clarity Pharmaceuticals 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). 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 Clarity Pharmaceuticals

Does Clarity Pharmaceuticals 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. In June 2024, Clarity Pharmaceuticals had AU$137m in cash, and was debt-free. Looking at the last year, the company burnt through AU$44m. That means it had a cash runway of about 3.1 years as of June 2024. Importantly, though, analysts think that Clarity Pharmaceuticals will reach cashflow breakeven before then. If that happens, then the length of its cash runway, today, would become a moot point. The image below shows how its cash balance has been changing over the last few years.

How Is Clarity Pharmaceuticals' Cash Burn Changing Over Time?

Although Clarity Pharmaceuticals reported revenue of AU$12m last year, it didn't actually have any revenue from operations. To us, that makes it a pre-revenue company, so we'll look to its cash burn trajectory as an assessment of its cash burn situation. Over the last year its cash burn actually increased by a very significant 59%. Oftentimes, increased cash burn simply means a company is accelerating its business development, but one should always be mindful that this causes the cash runway to shrink. 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.

How Easily Can Clarity Pharmaceuticals Raise Cash?

While Clarity Pharmaceuticals 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. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. 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.

Clarity Pharmaceuticals has a market capitalisation of AU$2.8b and burnt through AU$44m last year, which is 1.6% 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.

How Risky Is Clarity Pharmaceuticals' Cash Burn Situation?

It may already be apparent to you that we're relatively comfortable with the way Clarity Pharmaceuticals is burning through its cash. For example, we think its cash runway suggests that the company is on a good path. While its increasing cash burn wasn't great, the other factors mentioned in this article more than make up for weakness on that measure. There's no doubt that shareholders can take a lot of heart from the fact that analysts are forecasting it will reach breakeven before too long. Taking all the factors in this report into account, we're not at all worried about its cash burn, as the business appears well capitalized to spend as needs be. 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 Clarity Pharmaceuticals that investors should know when investing in the stock.

Of course Clarity Pharmaceuticals 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 with high insider ownership.

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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.