There's no doubt that money can be made by owning shares of unprofitable businesses. 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.
Given this risk, we thought we'd take a look at whether ContextLogic (NASDAQ:WISH) shareholders should 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.
When Might ContextLogic Run Out Of Money?
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 September 2021, ContextLogic had US$1.2b in cash, and was debt-free. In the last year, its cash burn was US$928m. That means it had a cash runway of around 16 months as of September 2021. Notably, analysts forecast that ContextLogic will break even (at a free cash flow level) in about 20 months. That means it doesn't have a great deal of breathing room, but it shouldn't really need more cash, considering that cash burn should be continually reducing. Depicted below, you can see how its cash holdings have changed over time.
Is ContextLogic's Revenue Growing?
We're hesitant to extrapolate on the recent trend to assess its cash burn, because ContextLogic actually had positive free cash flow last year, so operating revenue growth is probably our best bet to measure, right now. While it's not that amazing, we still think that the 11% increase in revenue from operations was a positive. While the past is always worth studying, it is the future that matters most of all. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.
Can ContextLogic Raise More Cash Easily?
Notwithstanding ContextLogic's revenue growth, it is still important to consider how it could raise more money, if it needs to. Companies can raise capital through either debt or equity. Commonly, a business will sell new shares in itself to raise cash and drive 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.
Since it has a market capitalisation of US$1.7b, ContextLogic's US$928m in cash burn equates to about 54% of its market value. From this perspective, it seems that the company spent a huge amount relative to its market value, and we'd be very wary of a painful capital raising.
How Risky Is ContextLogic's 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 ContextLogic's revenue growth was relatively promising. There's no doubt that shareholders can take a lot of heart from the fact that analysts are forecasting it will reach breakeven before too long. 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 ContextLogic's situation. Taking an in-depth view of risks, we've identified 4 warning signs for ContextLogic that you should be aware of before investing.
Of course ContextLogic 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.