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.
Given this risk, we thought we'd take a look at whether Evgen Pharma (LON:EVG) 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 Evgen Pharma Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. When Evgen Pharma last reported its balance sheet in September 2019, it had zero debt and cash worth UK£5.1m. Importantly, its cash burn was UK£2.5m over the trailing twelve months. So it had a cash runway of about 2.0 years from September 2019. Arguably, that's a prudent and sensible length of runway to have. Depicted below, you can see how its cash holdings have changed over time.
How Is Evgen Pharma's Cash Burn Changing Over Time?
Evgen Pharma 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. With the cash burn rate up 16% in the last year, it seems that the company is ratcheting up investment in the business over time. That's not necessarily a bad thing, but investors should be mindful of the fact that will shorten the cash runway. Clearly, however, the crucial factor is whether the company will grow its business going forward. So you might want to take a peek at how much the company is expected to grow in the next few years.
How Easily Can Evgen Pharma Raise Cash?
While Evgen Pharma does have a solid cash runway, its cash burn trajectory may have some shareholders thinking ahead to when the company may need to raise more cash. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. Commonly, a business will sell new shares in itself to raise cash to 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 UK£4.8m, Evgen Pharma's UK£2.5m in cash burn equates to about 51% 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 Evgen Pharma'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 Evgen Pharma's cash runway was relatively promising. 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. On another note, Evgen Pharma has 5 warning signs (and 2 which shouldn't be ignored) we think you should know about.
Of course Evgen Pharma 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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