We Think Cato (NYSE:CATO) Needs To Drive Business Growth Carefully

Just because a business does not make any money, does not mean that the stock will go down. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. 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, the natural question for Cato (NYSE:CATO) shareholders is whether they should be concerned by its rate of cash burn. In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.

Check out our latest analysis for Cato

How Long Is Cato's 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. As at August 2024, Cato had cash of US$105m and no debt. In the last year, its cash burn was US$21m. That means it had a cash runway of about 5.0 years as of August 2024. A runway of this length affords the company the time and space it needs to develop the business. The image below shows how its cash balance has been changing over the last few years.

How Well Is Cato Growing?

One thing for shareholders to keep front in mind is that Cato increased its cash burn by 21,609% in the last twelve months. While that's concerning on it's own, the fact that operating revenue was actually down 7.3% over the same period makes us positively tremulous. Considering these two factors together makes us nervous about the direction the company seems to be heading. In reality, this article only makes a short study of the company's growth data. You can take a look at how Cato has developed its business over time by checking this visualization of its revenue and earnings history.

Can Cato Raise More Cash Easily?

While Cato seems to be in a fairly good position, it's still worth considering how easily it could raise more cash, even just to fuel faster growth. Companies can raise capital through either debt or equity. 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.

Since it has a market capitalisation of US$113m, Cato's US$21m in cash burn equates to about 19% of its market value. 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 Cato's Cash Burn?

On this analysis of Cato's cash burn, we think its cash runway was reassuring, while its increasing cash burn has us a bit worried. Even though we don't think it has a problem with its cash burn, the analysis we've done in this article does suggest that shareholders should give some careful thought to the potential cost of raising more money in the future. Its important for readers to be cognizant of the risks that can affect the company's operations, and we've picked out 2 warning signs for Cato that investors should know when investing in the stock.

Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of interesting companies, 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.