Companies Like Ovid Therapeutics (NASDAQ:OVID) Are In A Position To Invest In Growth

There's no doubt that money can be made by owning shares of unprofitable businesses. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.

So, the natural question for Ovid Therapeutics (NASDAQ:OVID) 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'.

See our latest analysis for Ovid Therapeutics

When Might Ovid Therapeutics 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. When Ovid Therapeutics last reported its balance sheet in March 2023, it had zero debt and cash worth US$118m. Importantly, its cash burn was US$49m over the trailing twelve months. Therefore, from March 2023 it had 2.4 years of cash runway. Arguably, that's a prudent and sensible length of runway to have. You can see how its cash balance has changed over time in the image below.

How Is Ovid Therapeutics' Cash Burn Changing Over Time?

In our view, Ovid Therapeutics doesn't yet produce significant amounts of operating revenue, since it reported just US$124k in the last twelve months. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. While it hardly paints a picture of imminent growth, the fact that it has reduced its cash burn by 22% over the last year suggests some degree of prudence. Clearly, however, the crucial factor is whether the company will grow its business going forward. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.

How Easily Can Ovid Therapeutics Raise Cash?

Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Ovid Therapeutics to raise more cash in the future. 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.

Since it has a market capitalisation of US$240m, Ovid Therapeutics' US$49m in cash burn equates to about 20% of its market value. 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 Ovid Therapeutics' Cash Burn Situation?

Even though its cash burn relative to its market cap makes us a little nervous, we are compelled to mention that we thought Ovid Therapeutics' 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 Ovid Therapeutics' situation. Taking a deeper dive, we've spotted 2 warning signs for Ovid Therapeutics you should be aware of, and 1 of them is a bit concerning.

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. 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.