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 history lauds those rare successes, those that fail are often forgotten; who remembers Pets.com?

Given this risk, we thought we'd take a look at whether Olema Pharmaceuticals (NASDAQ:OLMA) shareholders should 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. We'll start by comparing its cash burn with its cash reserves in order to calculate its cash runway.

See our latest analysis for Olema Pharmaceuticals

Does Olema Pharmaceuticals Have A Long 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 September 2022, Olema Pharmaceuticals had cash of US$223m and no debt. Importantly, its cash burn was US$82m over the trailing twelve months. So it had a cash runway of about 2.7 years from September 2022. 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 Olema Pharmaceuticals' Cash Burn Changing Over Time?

Because Olema Pharmaceuticals isn't currently generating revenue, we consider it an early-stage 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. Over the last year its cash burn actually increased by a very significant 95%. Oftentimes, increased cash burn simply means a company is accelerating its business development, but one should always be mindful that this causes the cash runway to shrink. 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 Easily Can Olema Pharmaceuticals Raise Cash?

While Olema Pharmaceuticals 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 looking at a company's cash burn relative to its market capitalisation, we gain insight on how much shareholders would be diluted if the company needed to raise enough cash to cover another year's cash burn.

Olema Pharmaceuticals' cash burn of US$82m is about 49% of its US$166m market capitalisation. From this perspective, it seems that the company spent a huge amount relative to its market value, and we'd be very wary of a painful capital raising.

Is Olema Pharmaceuticals' Cash Burn A Worry?

On this analysis of Olema Pharmaceuticals' cash burn, we think its cash runway was reassuring, while its cash burn relative to its market cap has us a bit worried. 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. On another note, Olema Pharmaceuticals has 4 warning signs (and 2 which are significant) we think you should know about.

Of course Olema Pharmaceuticals 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.