We can readily understand why investors are attracted to unprofitable companies. 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, the natural question for Armadale Capital (LON:ACP) shareholders is whether they should be concerned by its rate of 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. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
When Might Armadale Capital Run Out Of Money?
A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at December 2021, Armadale Capital had cash of UK£886k and no debt. Looking at the last year, the company burnt through UK£767k. That means it had a cash runway of around 14 months as of December 2021. 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. Depicted below, you can see how its cash holdings have changed over time.
How Is Armadale Capital's Cash Burn Changing Over Time?
Because Armadale Capital 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. While it hardly paints a picture of imminent growth, the fact that it has reduced its cash burn by 28% over the last year suggests some degree of prudence. Admittedly, we're a bit cautious of Armadale Capital 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 Armadale Capital Raise More Cash Easily?
Even though it has reduced its cash burn recently, shareholders should still consider how easy it would be for Armadale Capital to raise more cash in the future. 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. We can compare a company's cash burn to its market capitalisation to get a sense for how many new shares a company would have to issue to fund one year's operations.
Armadale Capital has a market capitalisation of UK£19m and burnt through UK£767k last year, which is 4.1% 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.
So, Should We Worry About Armadale Capital's Cash Burn?
The good news is that in our view Armadale Capital's cash burn situation gives shareholders real reason for optimism. One the one hand we have its solid cash burn reduction, while on the other it can also boast very strong cash burn relative to its market cap. 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 Armadale Capital's situation. On another note, Armadale Capital has 4 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.
Of course Armadale Capital 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. 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.