Here's Why We're A Bit Worried About Emerita Resources' (CVE:EMO) 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, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. 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 Emerita Resources (CVE:EMO) shareholders 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.

View our latest analysis for Emerita Resources

How Long Is Emerita Resources' 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 2023, Emerita Resources had CA$14m in cash, and was debt-free. In the last year, its cash burn was CA$21m. So it had a cash runway of approximately 8 months from June 2023. To be frank, this kind of short runway puts us on edge, as it indicates the company must reduce its cash burn significantly, or else raise cash imminently. The image below shows how its cash balance has been changing over the last few years.

How Is Emerita Resources' Cash Burn Changing Over Time?

Because Emerita Resources isn't currently generating revenue, we consider it an early-stage 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. In fact, it ramped its spending strongly over the last year, increasing cash burn by 104%. That sort of spending growth rate can't continue for very long before it causes balance sheet weakness, generally speaking. Emerita Resources 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 Easily Can Emerita Resources Raise Cash?

Since its cash burn is moving in the wrong direction, Emerita Resources shareholders may wish to think 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.

Emerita Resources' cash burn of CA$21m is about 21% of its CA$97m market capitalisation. That's not insignificant, and if the company had to sell enough shares to fund another year's growth at the current share price, you'd likely witness fairly costly dilution.

How Risky Is Emerita Resources' Cash Burn Situation?

Emerita Resources is not in a great position when it comes to its cash burn situation. While its cash burn relative to its market cap wasn't too bad, its increasing cash burn does leave us rather nervous. After looking at that range of measures, we think shareholders should be extremely attentive to how the company is using its cash, as the cash burn makes us uncomfortable. Taking a deeper dive, we've spotted 6 warning signs for Emerita Resources you should be aware of, and 3 of them are potentially serious.

Of course Emerita Resources 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.