Here's Why We're Watching Echo IQ's (ASX:EIQ) Cash Burn Situation

Just because a business does not make any money, does not mean that the stock will go down. 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. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.

So, the natural question for Echo IQ (ASX:EIQ) shareholders is whether they should be concerned by its rate of 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). The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.

View our latest analysis for Echo IQ

SWOT Analysis for Echo IQ

When Might Echo IQ Run Out Of Money?

A cash runway is defined as the length of time it would take a company to run out of money if it kept spending at its current rate of cash burn. As at December 2022, Echo IQ had cash of AU$3.5m and no debt. In the last year, its cash burn was AU$4.1m. That means it had a cash runway of around 10 months as of December 2022. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. Depicted below, you can see how its cash holdings have changed over time.

How Is Echo IQ's Cash Burn Changing Over Time?

Whilst it's great to see that Echo IQ has already begun generating revenue from operations, last year it only produced AU$156k, so we don't think it is generating significant revenue, at this point. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Over the last year its cash burn actually increased by 27%, which suggests that management are increasing investment in future growth, but not too quickly. That's not necessarily a bad thing, but investors should be mindful of the fact that will shorten the cash runway. Echo IQ makes us a little nervous due to its lack of substantial operating revenue. We prefer most of the stocks on this list of stocks that analysts expect to grow.

How Hard Would It Be For Echo IQ To Raise More Cash For Growth?

Since its cash burn is moving in the wrong direction, Echo IQ 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. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash and fund 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.

Since it has a market capitalisation of AU$73m, Echo IQ's AU$4.1m in cash burn equates to about 5.5% of its 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 Echo IQ's Cash Burn Situation?

Even though its cash runway makes us a little nervous, we are compelled to mention that we thought Echo IQ's cash burn relative to its market cap was relatively promising. Even though we don't think it has a problem with its cash burn, the analysis we've done in this article does suggest that shareholders should give some careful thought to the potential cost of raising more money in the future. On another note, we conducted an in-depth investigation of the company, and identified 5 warning signs for Echo IQ (3 are a bit unpleasant!) that you should be aware of before investing here.

Of course Echo IQ 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. 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.