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. 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 Alector (NASDAQ:ALEC) shareholders should be worried about its cash burn. For the purpose of this article, we'll define cash burn as the amount of cash the company is spending each year to fund its growth (also called its negative free cash flow). We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.

View our latest analysis for Alector

How Long Is Alector's 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 March 2024, Alector had cash of US$562m and no debt. Looking at the last year, the company burnt through US$199m. That means it had a cash runway of about 2.8 years as of March 2024. 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 Well Is Alector Growing?

Alector reduced its cash burn by 4.6% during the last year, which points to some degree of discipline. Unfortunately, however, operating revenue declined by 23% during the period. Considering both these metrics, we're a little concerned about how the company is developing. Clearly, however, the crucial factor is whether the company will grow its business going forward. So you might want to take a peek at how much the company is expected to grow in the next few years.

How Easily Can Alector Raise Cash?

While Alector seems to be in a fairly good position, it's still worth considering how easily it could raise more cash, even just to fuel faster growth. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. 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).

Alector's cash burn of US$199m is about 39% of its US$506m market capitalisation. 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 Alector's Cash Burn?

Even though its cash burn relative to its market cap makes us a little nervous, we are compelled to mention that we thought Alector's cash runway was relatively promising. We don't think its cash burn is particularly problematic, but after considering the range of factors in this article, we do think shareholders should be monitoring how it changes over time. Taking an in-depth view of risks, we've identified 3 warning signs for Alector that you should be aware of before investing.

Of course Alector 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.