There's no doubt that money can be made by owning shares of unprofitable businesses. 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. 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 should State Gas (ASX:GAS) shareholders be worried about its cash burn? In this report, we will consider the company's annual negative free cash flow, henceforth referring to it as the 'cash burn'. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.

See our latest analysis for State Gas

When Might State Gas Run Out Of Money?

A company's cash runway is calculated by dividing its cash hoard by its cash burn. As at December 2020, State Gas had cash of AU$12m and no debt. In the last year, its cash burn was AU$5.6m. So it had a cash runway of about 2.2 years from December 2020. That's decent, giving the company a couple years to develop its business. You can see how its cash balance has changed over time in the image below.

How Is State Gas' Cash Burn Changing Over Time?

State Gas didn't record any revenue over the last year, indicating that it's an early stage company still developing its 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. With the cash burn rate up 7.7% in the last year, it seems that the company is ratcheting up investment in the business over time. However, the company's true cash runway will therefore be shorter than suggested above, if spending continues to increase. State Gas makes us a little nervous due to its lack of substantial operating revenue. We prefer most of the stocks on this list of stocks that analysts expect to grow.

How Hard Would It Be For State Gas To Raise More Cash For Growth?

While its cash burn is only increasing slightly, State Gas shareholders should still consider the potential need for further cash, down the track. 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 and 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).

State Gas' cash burn of AU$5.6m is about 7.6% of its AU$74m market capitalisation. Given that is a rather small percentage, it would probably be really easy for the company to fund another year's growth by issuing some new shares to investors, or even by taking out a loan.

How Risky Is State Gas' Cash Burn Situation?

As you can probably tell by now, we're not too worried about State Gas' cash burn. 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. Although its increasing cash burn does give us reason for pause, the other metrics we discussed in this article form a positive picture overall. Based on the factors mentioned in this article, we think its cash burn situation warrants some attention from shareholders, but we don't think they should be worried. On another note, we conducted an in-depth investigation of the company, and identified 5 warning signs for State Gas (2 make us uncomfortable!) that you should be aware of before investing here.

Of course State Gas 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.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.