Stock Analysis

We Think Opthea (ASX:OPT) Can Afford To Drive Business Growth

ASX:OPT
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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 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 this risk, we thought we'd take a look at whether Opthea (ASX:OPT) shareholders should be worried about its cash burn. For the purposes of this article, cash burn is the annual rate at which an unprofitable company spends cash to fund its growth; 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 Opthea

When Might Opthea Run Out Of Money?

A company's cash runway is the amount of time it would take to burn through its cash reserves at its current cash burn rate. When Opthea last reported its balance sheet in December 2020, it had zero debt and cash worth AU$203m. In the last year, its cash burn was AU$37m. So it had a cash runway of about 5.4 years from December 2020. Importantly, though, analysts think that Opthea will reach cashflow breakeven before then. If that happens, then the length of its cash runway, today, would become a moot point. Depicted below, you can see how its cash holdings have changed over time.

debt-equity-history-analysis
ASX:OPT Debt to Equity History March 2nd 2021

How Is Opthea's Cash Burn Changing Over Time?

In the last year, Opthea did book revenue of AU$228k, but its revenue from operations was less, at just AU$128k. Given how low that operating leverage is, we think it's too early to put much weight on the revenue growth, so we'll focus on how the cash burn is changing, instead. In fact, it ramped its spending strongly over the last year, increasing cash burn by 155%. That sort of ramp in expenditure is no doubt intended to generate worthwhile long term returns. 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 Opthea Raise Cash?

While Opthea 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. Many companies end up issuing new shares to fund future 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.

Opthea's cash burn of AU$37m is about 6.9% of its AU$539m 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 Opthea's Cash Burn?

It may already be apparent to you that we're relatively comfortable with the way Opthea is burning through its cash. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. Although we do find its increasing cash burn to be a bit of a negative, once we consider the other metrics mentioned in this article together, the overall picture is one we are comfortable with. Shareholders can take heart from the fact that analysts are forecasting it will reach breakeven. Considering all the factors discussed in this article, we're not overly concerned about the company's cash burn, although we do think shareholders should keep an eye on how it develops. Separately, we looked at different risks affecting the company and spotted 4 warning signs for Opthea (of which 1 is a bit concerning!) you should know about.

Of course Opthea 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 that insiders are buying.

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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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