Does Modern Water plc (LON:MWG) Need To Issue More Shares?

As the £8.94M market cap Modern Water plc (AIM:MWG) released another year of negative earnings, investors may be on edge waiting for breakeven. A crucial question to bear in mind when you’re an investor of an unprofitable business, is whether the company will have to raise more capital in the near future. This is because new equity from additional capital raising can thin out the value of current shareholders’ stake in the company. Given that Modern Water is spending more money than it earns, it will need to fund its expenses via external sources of capital. Looking at Modern Water’s latest financial data, I will gauge when the company may run out of cash and need to raise more money. Check out our latest analysis for Modern Water

What is cash burn?

Modern Water’s expenses are currently higher than the money it makes from its day-to-day operations, which means it is funding its overhead with equity capital a.k.a. its cash. With a negative operating cash flow of -£1.62M, Modern Water is chipping away at its £1.53M cash reserves in order to run its business. How fast Modern Water runs down its cash supply over time is known as the cash burn rate. The riskiest factor facing investors of the company is the potential for the company to run out of cash without the ability to raise more money, i.e. the company goes out of business. Modern Water operates in the water utilities industry, which delivered a positive EPS of £1.34 in the past year. This means, on average, its industry peers operating are profitable. Modern Water runs the risk of running down its cash supply too fast, or falling behind its profitable peers by investing too little.

When will Modern Water need to raise more cash?

Modern Water has to pay its employees and other necessities such as rent and admin costs in order to keep its business running. These costs are called operational expenses, which is sometimes shortened to opex. In this calculation I've only included recurring sales, general and admin (SG&A) expenses, and R&D expenses occured within they year. Opex declined by 7.60% over the past year, which could be an indication of Modern Water putting the brakes on ramping up high growth. However, even with declining costs, the current level of cash is not enough to sustain Modern Water’s operations and the company may need to come to market to raise more capital within the year. Although this is a relatively simplistic calculation, and Modern Water may continue to reduce its costs further or open a new line of credit instead of issuing new equity shares, the analysis still helps us understand how sustainable the Modern Water’s operation is, and when things may have to change.

What this means for you:

This analysis isn’t meant to deter you from Modern Water, but rather, to help you better understand the risks involved investing in loss-making companies. Now you know that even if the company was to continue to shrink its opex at this rate, it will not be able to sustain its operations given the current level of cash reserves. An opportunity may exist for you to enter into the stock at an attractive price, should Modern Water come to market to fund its operations. This is only a rough assessment of financial health, and I'm sure MWG has company-specific issues impacting its cash management decisions. I suggest you continue to research Modern Water to get a better picture of the company by looking at:

1. Historical Performance: What has MWG's returns been like over the past? Go into more detail in the past track record analysis and take a look at the free visual representations of our analysis for more clarity.

2. Management Team: An experienced management team on the helm increases our confidence in the business – take a look at who sits on Modern Water’s board and the CEO’s back ground.

3. Other High-Performing Stocks: If you believe you should cushion your portfolio with something less risky, scroll through our free list of these great stocks here.

NB: Figures in this article are calculated using data from the trailing twelve months from 30 June 2017. This may not be consistent with full year annual report figures. Operating expenses include only SG&A and one-year R&D.

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Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article 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.