Here's Why We're Not Too Worried About Prothena's (NASDAQ:PRTA) Cash Burn Situation

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. Nonetheless, only a fool would ignore the risk that a loss making company burns through its cash too quickly.

So should Prothena (NASDAQ:PRTA) shareholders be worried about its 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. Let's start with an examination of the business's cash, relative to its cash burn.

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How Long Is Prothena's Cash Runway?

A company's cash runway is the amount of time it would take to burn through its cash reserves at its current cash burn rate. As at September 2019, Prothena had cash of US$390m and no debt. Importantly, its cash burn was US$62m over the trailing twelve months. Therefore, from September 2019 it had 6.3 years of cash runway. Notably, however, analysts think that Prothena will break even (at a free cash flow level) before then. In that case, it may never reach the end of its cash runway. The image below shows how its cash balance has been changing over the last few years.

How Is Prothena's Cash Burn Changing Over Time?

Whilst it's great to see that Prothena has already begun generating revenue from operations, last year it only produced US$752k, so we don't think it is generating significant revenue, at this point. 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 30%, 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. While the past is always worth studying, it is the future that matters most of all. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.

How Easily Can Prothena Raise Cash?

While Prothena does have a solid cash runway, its cash burn trajectory may have some shareholders thinking ahead to when the company may need to raise more cash. Companies can raise capital through either debt or equity. Many companies end up issuing new shares to fund future 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).

Prothena has a market capitalisation of US$605m and burnt through US$62m last year, which is 10% of the company's market value. Given that situation, it's fair to say the company wouldn't have much trouble raising more cash for growth, but shareholders would be somewhat diluted.

How Risky Is Prothena's Cash Burn Situation?

It may already be apparent to you that we're relatively comfortable with the way Prothena is burning through its cash. For example, we think its cash runway suggests that the company is on a good path. Although its increasing cash burn does give us reason for pause, the other metrics we discussed in this article form a positive picture overall. One real positive is that analysts are forecasting that the company will reach breakeven. 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. While we always like to monitor cash burn for early stage companies, qualitative factors such as the CEO pay can also shed light on the situation. Click here to see free what the Prothena CEO is paid..

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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.

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