Here's Why We're Not At All Concerned With Africa Energy's (CVE:AFE) Cash Burn Situation

Even when a business is losing money, it's possible for shareholders to make money if they buy a good business at the right price. 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 while the successes are well known, investors should not ignore the very many unprofitable companies that simply burn through all their cash and collapse.

So should Africa Energy (CVE:AFE) shareholders be worried about its cash burn? 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. Let's start with an examination of the business' cash, relative to its cash burn.

View our latest analysis for Africa Energy

Does Africa Energy Have A Long Cash Runway?

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. Africa Energy has such a small amount of debt that we'll set it aside, and focus on the US$14m in cash it held at March 2021. Looking at the last year, the company burnt through US$4.2m. Therefore, from March 2021 it had 3.3 years of cash runway. There's no doubt that this is a reassuringly long runway. Depicted below, you can see how its cash holdings have changed over time.

How Is Africa Energy's Cash Burn Changing Over Time?

Africa Energy didn't record any revenue over the last year, indicating that it's an early stage company still developing its 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. With the cash burn rate up 46% in the last year, it seems that the company is ratcheting up investment in the business over time. However, the company's true cash runway will therefore be shorter than suggested above, if spending continues to increase. While the past is always worth studying, it is the future that matters most of all. So you might want to take a peek at how much the company is expected to grow in the next few years.

Can Africa Energy Raise More Cash Easily?

Given its cash burn trajectory, Africa Energy shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Companies can raise capital through either debt or equity. 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.

Africa Energy has a market capitalisation of US$267m and burnt through US$4.2m 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 Africa Energy's Cash Burn Situation?

As you can probably tell by now, we're not too worried about Africa Energy's cash burn. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. Although its increasing cash burn does give us reason for pause, the other metrics we discussed in this article form a positive picture overall. Looking at all the measures in this article, together, we're not worried about its rate of cash burn; the company seems well on top of its medium-term spending needs. Separately, we looked at different risks affecting the company and spotted 3 warning signs for Africa Energy (of which 2 are concerning!) you should know about.

If you would prefer to check out another company with better fundamentals, then do not miss this free list of interesting companies, that have HIGH return on equity and low debt or this list of stocks which are all forecast to grow.

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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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