Here's Why We're Not Too Worried About Red Sky Energy's (ASX:ROG) Cash Burn Situation

editorial-team@simplywallst.com (Simply Wall St)

Thu, Aug 15, 2024, 3:09 PM 4 min read

There's no doubt that money can be made by owning shares of unprofitable businesses. For example, although software-as-a-service business Salesforce.com lost money for years while it grew recurring revenue, if you held shares since 2005, you'd have done very well indeed. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.

So should Red Sky Energy (ASX:ROG) shareholders be worried about its cash burn? In this article, we define cash burn as its annual (negative) free cash flow, which is the amount of money a company spends each year to fund its growth. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.

View our latest analysis for Red Sky Energy

Does Red Sky Energy Have A Long Cash Runway?

A company's cash runway is the amount of time it would take to burn through its cash reserves at its current cash burn rate. As at December 2023, Red Sky Energy had cash of AU$2.7m and no debt. Importantly, its cash burn was AU$1.5m over the trailing twelve months. Therefore, from December 2023 it had roughly 21 months of cash runway. While that cash runway isn't too concerning, sensible holders would be peering into the distance, and considering what happens if the company runs out of cash. The image below shows how its cash balance has been changing over the last few years.

debt-equity-history-analysis — ASX:ROG Debt to Equity History August 15th 2024

How Is Red Sky Energy's Cash Burn Changing Over Time?

Whilst it's great to see that Red Sky Energy has already begun generating revenue from operations, last year it only produced AU$358k, so we don't think it is generating significant revenue, at this point. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Even though it doesn't get us excited, the 47% reduction in cash burn year on year does suggest the company can continue operating for quite some time. Admittedly, we're a bit cautious of Red Sky Energy 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 Hard Would It Be For Red Sky Energy To Raise More Cash For Growth?

Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Red Sky Energy to raise more cash in the future. Companies can raise capital through either debt or equity. Commonly, a business will sell new shares in itself to raise cash and 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.

Red Sky Energy has a market capitalisation of AU$33m and burnt through AU$1.5m last year, which is 4.6% 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 Red Sky Energy's Cash Burn Situation?

It may already be apparent to you that we're relatively comfortable with the way Red Sky Energy is burning through its cash. In particular, we think its cash burn relative to its market cap stands out as evidence that the company is well on top of its spending. Its cash runway wasn't quite as good, but was still rather encouraging! Considering all the factors discussed in this article, we're not overly concerned about the company's cash burn, although we do think shareholders should keep an eye on how it develops. On another note, we conducted an in-depth investigation of the company, and identified 6 warning signs for Red Sky Energy (4 don't sit too well with us!) that you should be aware of before investing here.

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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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.