Companies Like DigitalX (ASX:DCC) Are In A Position To Invest In Growth

Just because a business does not make any money, does not mean that the stock will go down. By way of example, DigitalX (ASX:DCC) has seen its share price rise 133% over the last year, delighting many shareholders. 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.

In light of its strong share price run, we think now is a good time to investigate how risky DigitalX's cash burn is. 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 DigitalX

Does DigitalX Have A Long Cash Runway?

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 DigitalX last reported its balance sheet in December 2020, it had zero debt and cash worth AU$3.9m. Looking at the last year, the company burnt through AU$1.6m. So it had a cash runway of about 2.4 years from December 2020. Arguably, that's a prudent and sensible length of runway to have. You can see how its cash balance has changed over time in the image below.

How Is DigitalX's Cash Burn Changing Over Time?

Although DigitalX had revenue of AU$2.6m in the last twelve months, its operating revenue was only AU$378k in that time period. We don't think that's enough operating revenue for us to understand too much from revenue growth rates, since the company is growing off a low base. So we'll focus on the cash burn, today. The 61% reduction in its cash burn over the last twelve months may be good for protecting the balance sheet but it hardly points to imminent growth. Admittedly, we're a bit cautious of DigitalX 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 Hard Would It Be For DigitalX To Raise More Cash For Growth?

There's no doubt DigitalX's rapidly reducing cash burn brings comfort, but even if it's only hypothetical, it's always worth asking how easily it could raise more money to fund further growth. Companies can raise capital through either debt or equity. Commonly, a business will sell new shares in itself to raise cash and drive 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.

DigitalX's cash burn of AU$1.6m is about 4.4% 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 DigitalX's Cash Burn?

It may already be apparent to you that we're relatively comfortable with the way DigitalX is burning through its cash. For example, we think its cash burn relative to its market cap suggests that the company is on a good path. And even its cash runway was very encouraging. Looking at all the measures in this article, together, we're not worried about its rate of cash burn, which seems to be under control. On another note, DigitalX has 5 warning signs (and 1 which is a bit unpleasant) we think you should know about.

Of course DigitalX 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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