We can readily understand why investors are attracted to unprofitable companies. For example, Legacy Iron Ore (ASX:LCY) shareholders have done very well over the last year, with the share price soaring by 1,650%. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.

Given its strong share price performance, we think it's worthwhile for Legacy Iron Ore shareholders to consider whether its cash burn is concerning. 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.

Check out our latest analysis for Legacy Iron Ore

Does Legacy Iron Ore Have A Long Cash Runway?

A company's cash runway is calculated by dividing its cash hoard by its cash burn. When Legacy Iron Ore last reported its balance sheet in September 2020, it had zero debt and cash worth AU$7.7m. Importantly, its cash burn was AU$2.4m over the trailing twelve months. Therefore, from September 2020 it had 3.2 years of cash runway. There's no doubt that this is a reassuringly long runway. You can see how its cash balance has changed over time in the image below.

How Is Legacy Iron Ore's Cash Burn Changing Over Time?

In the last year, Legacy Iron Ore did book revenue of AU$161k, but its revenue from operations was less, at just AU$86k. Given how low that operating leverage is, we think it's too early to put much weight on the revenue growth, so we'll focus on how the cash burn is changing, instead. Over the last year its cash burn actually increased by 29%, which suggests that management are increasing investment in future growth, but not too quickly. That's not necessarily a bad thing, but investors should be mindful of the fact that will shorten the cash runway. Admittedly, we're a bit cautious of Legacy Iron Ore 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 Easily Can Legacy Iron Ore Raise Cash?

Given its cash burn trajectory, Legacy Iron Ore shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. 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 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).

Legacy Iron Ore has a market capitalisation of AU$225m and burnt through AU$2.4m last year, which is 1.1% of the company's market value. That means it could easily issue a few shares to fund more growth, and might well be in a position to borrow cheaply.

How Risky Is Legacy Iron Ore's Cash Burn Situation?

It may already be apparent to you that we're relatively comfortable with the way Legacy Iron Ore is burning through its cash. For example, we think its cash runway suggests that the company is on a good path. While its increasing cash burn wasn't great, the other factors mentioned in this article more than make up for weakness on that measure. After taking into account the various metrics mentioned in this report, we're pretty comfortable with how the company is spending its cash, as it seems on track to meet its needs over the medium term. Taking a deeper dive, we've spotted 3 warning signs for Legacy Iron Ore you should be aware of, and 1 of them is significant.

Of course Legacy Iron Ore 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. 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.

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