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We can readily understand why investors are attracted to unprofitable companies. For example, although Amazon.com made losses for many years after listing, if you had bought and held the shares since 1999, you would have made a fortune. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.
Given this risk, we thought we'd take a look at whether Ardea Resources (ASX:ARL) shareholders should 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. The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
View our latest analysis for Ardea Resources
Does Ardea Resources Have A Long Cash Runway?
You can calculate a company's cash runway by dividing the amount of cash it has by the rate at which it is spending that cash. As at December 2020, Ardea Resources had cash of AU$11m and no debt. Looking at the last year, the company burnt through AU$6.4m. Therefore, from December 2020 it had roughly 20 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. You can see how its cash balance has changed over time in the image below.
How Is Ardea Resources' Cash Burn Changing Over Time?
Ardea Resources 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 cash burn dropping by 6.8% it seems management feel the company is spending enough to advance its business plans at an appropriate pace. Admittedly, we're a bit cautious of Ardea Resources due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.
Can Ardea Resources Raise More Cash Easily?
While Ardea Resources is showing a solid reduction in its cash burn, it's still worth considering how easily it could raise more cash, even just to fuel faster growth. 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.