Just because a business does not make any money, does not mean that the stock will go down. By way of example, Frontier Lithium (CVE:FL) has seen its share price rise 278% over the last year, delighting many shareholders. 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 its strong share price performance, we think it's worthwhile for Frontier Lithium shareholders to consider whether its cash burn is concerning. 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.
When Might Frontier Lithium Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. Frontier Lithium has such a small amount of debt that we'll set it aside, and focus on the CA$7.0m in cash it held at June 2021. Looking at the last year, the company burnt through CA$9.3m. That means it had a cash runway of around 9 months as of June 2021. That's quite a short cash runway, indicating the company must either reduce its annual cash burn or replenish its cash. You can see how its cash balance has changed over time in the image below.
How Is Frontier Lithium's Cash Burn Changing Over Time?
Because Frontier Lithium isn't currently generating revenue, we consider it an early-stage 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. Its cash burn positively exploded in the last year, up 247%. With that kind of spending growth its cash runway will shorten quickly, as it simultaneously uses its cash while increasing the burn rate. Frontier Lithium makes us a little nervous due to its lack of substantial operating revenue. So we'd generally prefer stocks from this list of stocks that have analysts forecasting growth.
How Hard Would It Be For Frontier Lithium To Raise More Cash For Growth?
Since its cash burn is moving in the wrong direction, Frontier Lithium shareholders may wish to think ahead to when the company may need to raise more cash. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. 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 comparing a company's annual cash burn to its total market capitalisation, we can estimate roughly how many shares it would have to issue in order to run the company for another year (at the same burn rate).
Frontier Lithium has a market capitalisation of CA$166m and burnt through CA$9.3m last year, which is 5.6% of the company's market value. That's a low proportion, so we figure the company would be able to raise more cash to fund growth, with a little dilution, or even to simply borrow some money.
How Risky Is Frontier Lithium's Cash Burn Situation?
On this analysis of Frontier Lithium's cash burn, we think its cash burn relative to its market cap was reassuring, while its increasing cash burn has us a bit worried. Summing up, we think the Frontier Lithium's cash burn is a risk, based on the factors we mentioned in this article. Separately, we looked at different risks affecting the company and spotted 3 warning signs for Frontier Lithium (of which 2 are concerning!) you should know about.
Of course Frontier Lithium 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.
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.
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