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, Zai Lab (NASDAQ:ZLAB) shareholders have done very well over the last year, with the share price soaring by 149%. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.
In light of its strong share price run, we think now is a good time to investigate how risky Zai Lab's cash burn is. 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). The first step is to compare its cash burn with its cash reserves, to give us its 'cash runway'.
How Long Is Zai Lab'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 December 2020, Zai Lab had cash of US$1.2b and no debt. Looking at the last year, the company burnt through US$227m. That means it had a cash runway of about 5.2 years as of December 2020. Importantly, though, analysts think that Zai Lab will reach cashflow breakeven before then. In that case, it may never reach the end of its cash runway. You can see how its cash balance has changed over time in the image below.
How Well Is Zai Lab Growing?
At first glance it's a bit worrying to see that Zai Lab actually boosted its cash burn by 9.9%, year on year. Given that its operating revenue increased 277% in that time, it seems the company has reason to think its expenditure is working well to drive growth. If that revenue does keep flowing reliably, then the company could see a strong improvement in free cash flow simply by reducing growth expenditure. We think it is growing rather well, upon reflection. Clearly, however, the crucial factor is whether the company will grow its business going forward. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.
How Hard Would It Be For Zai Lab To Raise More Cash For Growth?
There's no doubt Zai Lab seems to be in a fairly good position, when it comes to managing its cash burn, but even if it's only hypothetical, it's always worth asking how easily it could raise more money to fund growth. 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).
Zai Lab's cash burn of US$227m is about 2.0% of its US$11b market capitalisation. So it could almost certainly just borrow a little to fund another year's growth, or else easily raise the cash by issuing a few shares.
How Risky Is Zai Lab's Cash Burn Situation?
It may already be apparent to you that we're relatively comfortable with the way Zai Lab is burning through its cash. For example, we think its revenue growth 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. Taking all the factors in this report into account, we're not at all worried about its cash burn, as the business appears well capitalized to spend as needs be. Taking an in-depth view of risks, we've identified 2 warning signs for Zai Lab that you should be aware of before investing.
Of course Zai Lab 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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