We can readily understand why investors are attracted to unprofitable companies. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.
Given this risk, we thought we'd take a look at whether Red Emperor Resources (ASX:RMP) shareholders should be worried about its cash burn. In this article, we define cash burn as its annual (negative) free cash flow, which is the amount of money a company spends each year to fund its growth. We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.
Check out our latest analysis for Red Emperor Resources
How Long Is Red Emperor Resources's Cash Runway?
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. As at June 2019, Red Emperor Resources had cash of AU$5.6m and no debt. Importantly, its cash burn was AU$9.7m over the trailing twelve months. So it had a cash runway of approximately 7 months from June 2019. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. Importantly, if we extrapolate recent cash burn trends, the cash runway would be a lot longer. Depicted below, you can see how its cash holdings have changed over time.
How Is Red Emperor Resources's Cash Burn Changing Over Time?
Although Red Emperor Resources reported revenue of AU$74k last year, it didn't actually have any revenue from operations. That means we consider it a pre-revenue business, and we will focus our growth analysis on cash burn, for now. Its cash burn positively exploded in the last year, up 1070%. Given that sharp increase in spending, the company's cash runway will shrink rapidly as it depletes its cash reserves. Admittedly, we're a bit cautious of Red Emperor Resources due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.
Can Red Emperor Resources Raise More Cash Easily?
Given its cash burn trajectory, Red Emperor Resources shareholders should already be thinking about how easy it might be for it to raise further cash in the future. 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 to fund 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.