Can Esports Mogul (ASX:ESH) Afford To Invest In Growth?
Even when a business is losing money, it's possible for shareholders to make money if they buy a good business at the right price. 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. 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 Esports Mogul (ASX:ESH) shareholders is whether they should be concerned by its rate of 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.
Check out our latest analysis for Esports Mogul
When Might Esports Mogul Run Out Of Money?
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 Esports Mogul last reported its balance sheet in June 2019, it had zero debt and cash worth AU$2.8m. In the last year, its cash burn was AU$5.5m. Therefore, from June 2019 it had roughly 6 months of cash runway. To be frank, this kind of short runway puts us on edge, as it indicates the company must reduce its cash burn significantly, or else raise cash imminently. Depicted below, you can see how its cash holdings have changed over time.
How Is Esports Mogul's Cash Burn Changing Over Time?
In our view, Esports Mogul doesn't yet produce significant amounts of operating revenue, since it reported just AU$50k in the last twelve months. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Over the last year its cash burn actually increased by a very significant 86%. Oftentimes, increased cash burn simply means a company is accelerating its business development, but one should always be mindful that this causes the cash runway to shrink. Admittedly, we're a bit cautious of Esports Mogul 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 Esports Mogul To Raise More Cash For Growth?
Since its cash burn is moving in the wrong direction, Esports Mogul shareholders may wish to think ahead to when the company may need to raise more cash. Companies can raise capital through either debt or equity. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash to 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).
Esports Mogul has a market capitalisation of AU$19m and burnt through AU$5.5m last year, which is 29% of the company's market value. That's not insignificant, and if the company had to sell enough shares to fund another year's growth at the current share price, you'd likely witness fairly costly dilution.
So, Should We Worry About Esports Mogul's Cash Burn?
We must admit that we don't think Esports Mogul is in a very strong position, when it comes to its cash burn. Although we can understand if some shareholders find its cash burn relative to its market cap acceptable, we can't ignore the fact that we consider its cash runway to be downright troublesome. Once we consider the metrics mentioned in this article together, we're left with very little confidence in the company's ability to manage its cash burn, and we think it will probably need more money. For us, it's always important to consider risks around cash burn rates. But investors should look at a whole range of factors when researching a new stock. For example, it could be interesting to see how much the Esports Mogul CEO receives in total remuneration.
Of course Esports Mogul 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.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.
