There's no doubt that money can be made by owning shares of unprofitable businesses. For example, biotech and mining exploration companies often lose money for years before finding success with a new treatment or mineral discovery. But while history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?
Given this risk, we thought we'd take a look at whether Hunter Oil (CVE:HOC) 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. Let's start with an examination of the business's cash, relative to its cash burn.
When Might Hunter Oil Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. In March 2020, Hunter Oil had US$899k in cash, and was debt-free. Importantly, its cash burn was US$667k over the trailing twelve months. That means it had a cash runway of around 16 months as of March 2020. That's not too bad, but it's fair to say the end of the cash runway is in sight, unless cash burn reduces drastically. The image below shows how its cash balance has been changing over the last few years.
How Is Hunter Oil's Cash Burn Changing Over Time?
Hunter Oil didn't record any revenue over the last year, indicating that it's an early stage company still developing its business. So while we can't look to sales to understand growth, we can look at how the cash burn is changing to understand how expenditure is trending over time. The 82% reduction in its cash burn over the last twelve months may be good for protecting the balance sheet but it hardly points to imminent growth. Admittedly, we're a bit cautious of Hunter Oil due to its lack of significant operating revenues. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.
How Easily Can Hunter Oil Raise Cash?
There's no doubt Hunter Oil's rapidly reducing cash burn brings comfort, but even if it's only hypothetical, it's always worth asking how easily it could raise more money to fund further growth. 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.
Hunter Oil has a market capitalisation of US$2.9m and burnt through US$667k last year, which is 23% of the company's market value. That's fairly notable cash burn, so if the company had to sell shares to cover the cost of another year's operations, shareholders would suffer some costly dilution.
Is Hunter Oil's Cash Burn A Worry?
On this analysis of Hunter Oil's cash burn, we think its cash burn reduction was reassuring, while its cash burn relative to its market cap 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 Hunter Oil's situation. Taking an in-depth view of risks, we've identified 2 warning signs for Hunter Oil that you should be aware of before investing.
Of course Hunter Oil 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. 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. Thank you for reading.