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There's no doubt that money can be made by owning shares of unprofitable businesses. By way of example, Premier African Minerals (LON:PREM) has seen its share price rise 184% over the last year, delighting many shareholders. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.
So notwithstanding the buoyant share price, we think it's well worth asking whether Premier African Minerals' cash burn is too risky. 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. Let's start with an examination of the business' cash, relative to its cash burn.
When Might Premier African Minerals Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. Premier African Minerals has such a small amount of debt that we'll set it aside, and focus on the US$727k in cash it held at December 2020. Importantly, its cash burn was US$802k over the trailing twelve months. That means it had a cash runway of around 11 months as of December 2020. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. Depicted below, you can see how its cash holdings have changed over time.
How Is Premier African Minerals' Cash Burn Changing Over Time?
Premier African Minerals didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. Nonetheless, we can still examine its cash burn trajectory as part of our assessment of its cash burn situation. It's possible that the 11% reduction in cash burn over the last year is evidence of management tightening their belts as cash reserves deplete. Admittedly, we're a bit cautious of Premier African Minerals due to its lack of significant operating revenues. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.
Can Premier African Minerals Raise More Cash Easily?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Premier African Minerals 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.
Premier African Minerals' cash burn of US$802k is about 1.4% of its US$58m market capitalisation. That means it could easily issue a few shares to fund more growth, and might well be in a position to borrow cheaply.
Is Premier African Minerals' Cash Burn A Worry?
On this analysis of Premier African Minerals' cash burn, we think its cash burn relative to its market cap was reassuring, while its cash runway has us a bit worried. 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 Premier African Minerals' situation. On another note, Premier African Minerals has 4 warning signs (and 1 which is a bit concerning) we think you should know about.
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)
This article by Simply Wall St is general in nature. 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.
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