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 while the successes are well known, investors should not ignore the very many unprofitable companies that simply burn through all their cash and collapse.
So, the natural question for Spectral Medical (TSE:EDT) shareholders is whether they should be concerned by its rate of cash burn. For the purpose of this article, we’ll define cash burn as the amount of cash the company is spending each year to fund its growth (also called its negative free cash flow). We’ll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.
How Long Is Spectral Medical’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. When Spectral Medical last reported its balance sheet in September 2020, it had zero debt and cash worth CA$7.6m. Importantly, its cash burn was CA$519k over the trailing twelve months. That means it had a cash runway of very many years as of September 2020. Even though this is but one measure of the company’s cash burn, the thought of such a long cash runway warms our bellies in a comforting way. Depicted below, you can see how its cash holdings have changed over time.
How Well Is Spectral Medical Growing?
Happily, Spectral Medical is travelling in the right direction when it comes to its cash burn, which is down 69% over the last year. But it was a bit disconcerting to see operating revenue down 42% in that time. On balance, we’d say the company is improving over time. While the past is always worth studying, it is the future that matters most of all. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.
Can Spectral Medical Raise More Cash Easily?
We are certainly impressed with the progress Spectral Medical has made over the last year, but it is also worth considering how costly it would be if it wanted to raise more cash to fund faster growth. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. Many companies end up issuing new shares to fund future 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).
Spectral Medical’s cash burn of CA$519k is about 0.3% of its CA$159m 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.
So, Should We Worry About Spectral Medical’s Cash Burn?
As you can probably tell by now, we’re not too worried about Spectral Medical’s cash burn. In particular, we think its cash runway stands out as evidence that the company is well on top of its spending. While we must concede that its falling revenue is a bit worrying, the other factors mentioned in this article provide great comfort when it comes to the cash burn. Looking at all the measures in this article, together, we’re not worried about its rate of cash burn; the company seems well on top of its medium-term spending needs. Readers need to have a sound understanding of business risks before investing in a stock, and we’ve spotted 3 warning signs for Spectral Medical that potential shareholders should take into account before putting money into a stock.
If you would prefer to check out another company with better fundamentals, then do not miss this free list of interesting companies, that have HIGH return on equity and low debt or this list of stocks which are all forecast to grow.
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