Can Emmerson (LON:EML) Afford To Invest In Growth?

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. 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 Emmerson (LON:EML) 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.

See our latest analysis for Emmerson

When Might Emmerson 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 June 2022, Emmerson had cash of US$4.5m and no debt. Importantly, its cash burn was US$7.8m over the trailing twelve months. Therefore, from June 2022 it had roughly 7 months of cash runway. 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 Emmerson's Cash Burn Changing Over Time?

Emmerson didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. Over the last year its cash burn actually increased by a very significant 95%. While this spending increase is no doubt intended to drive growth, if the trend continues the company's cash runway will shrink very quickly. Emmerson makes us a little nervous due to its lack of substantial operating revenue. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.

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

Given its cash burn trajectory, Emmerson shareholders should already be thinking about how easy it might be for it to raise further cash in the future. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. Commonly, a business will sell new shares in itself to raise cash and drive 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.

Emmerson's cash burn of US$7.8m is about 15% of its US$51m market capitalisation. As a result, we'd venture that the company could raise more cash for growth without much trouble, albeit at the cost of some dilution.

So, Should We Worry About Emmerson's Cash Burn?

Even though its cash runway makes us a little nervous, we are compelled to mention that we thought Emmerson's cash burn relative to its market cap was relatively promising. Considering all the measures mentioned in this report, we reckon that its cash burn is fairly risky, and if we held shares we'd be watching like a hawk for any deterioration. On another note, Emmerson has 5 warning signs (and 3 which are a bit unpleasant) we think you should know about.

Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of companies insiders are buying, and this list of stocks growth stocks (according to analyst forecasts)

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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.