Companies Like Diffusion Pharmaceuticals (NASDAQ:DFFN) Are In A Position 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 software-as-a-service business Salesforce.com lost money for years while it grew recurring revenue, if you held shares since 2005, you'd have done very well indeed. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.

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

View our latest analysis for Diffusion Pharmaceuticals

How Long Is Diffusion Pharmaceuticals' 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. When Diffusion Pharmaceuticals last reported its balance sheet in June 2020, it had zero debt and cash worth US$26m. In the last year, its cash burn was US$11m. That means it had a cash runway of about 2.3 years as of June 2020. That's decent, giving the company a couple years to develop its business. Depicted below, you can see how its cash holdings have changed over time.

How Is Diffusion Pharmaceuticals' Cash Burn Changing Over Time?

Because Diffusion Pharmaceuticals 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. With the cash burn rate up 10% in the last year, it seems that the company is ratcheting up investment in the business over time. That's not necessarily a bad thing, but investors should be mindful of the fact that will shorten the cash runway. Clearly, however, the crucial factor is whether the company will grow its business going forward. So you might want to take a peek at how much the company is expected to grow in the next few years.

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

Given its cash burn trajectory, Diffusion Pharmaceuticals shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. 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.

Diffusion Pharmaceuticals has a market capitalisation of US$66m and burnt through US$11m last year, which is 17% of the company's market value. Given that situation, it's fair to say the company wouldn't have much trouble raising more cash for growth, but shareholders would be somewhat diluted.

Is Diffusion Pharmaceuticals' Cash Burn A Worry?

Even though its increasing cash burn makes us a little nervous, we are compelled to mention that we thought Diffusion Pharmaceuticals' cash runway was relatively promising. While we're the kind of investors who are always a bit concerned about the risks involved with cash burning companies, the metrics we have discussed in this article leave us relatively comfortable about Diffusion Pharmaceuticals' situation. Taking a deeper dive, we've spotted 4 warning signs for Diffusion Pharmaceuticals you should be aware of, and 1 of them makes us a bit uncomfortable.

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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