C3.ai Stock Might Not End Its Tailspin Until This Trend Stops

C3.ai (NYSE: AI) is a software provider that offers turnkey artificial intelligence (AI) applications that can help businesses automate and improve their operations. It's a stock that should be thriving amid rising demand and interest in AI. And while its growth rate has been improving, the stock itself hasn't been a hot buy with investors this year, as share prices are down 13%.

Investors might be frustrated with not seeing better returns on their investment in the company. But I don't think that the stock will be able to turn things around until one troubling trend finally comes to an end.

C3.ai's lack of profitability is a big red flag

For a fast-growing business, investors can often accept a degree of unprofitability because they know that a company is still in its early stages, and it can take time for it to get into the black. With C3.ai, however, this isn't some new company with limited revenue; in the trailing 12 months it has generated $325 million in sales, and during that time its losses have totaled $278 million.

The chart below identifies a glaring and problematic trend, which shows that even though quarterly revenue has increased for C3.ai, its losses have also grown.

AI Revenue (Quarterly) data by YCharts

Typically, investors will want to see a much different pattern here, which is that the gap between net loss and revenue is shrinking rather than expanding. But C3.ai has been spending heavily on not just research and development but also sales and marketing efforts related to AI. As a result, the bottom line has deteriorated at a time when investors would have expected to see significant improvement.

Poor financials can lead to more share offerings and dilution

If a company struggles with profitability, it's a sign that its operations aren't sustainable. Plus, it may not be generating sufficient cash to cover its day-to-day operations, and that can result in the business needing to raise cash through the debt or equity markets. The latter can be preferable since it doesn't come with any interest costs.

Over the past four quarters, C3.ai has burned through $58 million from its day-to-day operations; this rate of cash burn has also been a problem for the company for years. Unsurprisingly, C3.ai's share count has been continuously rising. The risk is that if its financials don't improve, there may be more dilution in the future, which means the company's stock price, even though it's underperforming right now, may be on track to fall even further.

AI Shares Outstanding data by YCharts

Should you take a chance on C3.ai stock?

If you're bullish on C3.ai you might be tempted to invest in the stock given its seemingly modest $3 billion valuation. But while the business is growing, it's not doing so in a way that should give you confidence that it can become profitable in the near future. And until that changes, this is going to be a risky and volatile investment to own.

Generating revenue for the sake of seeing the top line increase is likely not going to provide investors with enough of a reason to remain bullish on the business in the long run. I wouldn't suggest investing in C3.ai, as there are many other AI stocks that can be far better options for investors who want to invest in tech companies that will benefit from the AI boom, and whose operations are already profitable.

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David Jagielski has no position in any of the stocks mentioned. The Motley Fool recommends C3.ai. The Motley Fool has a disclosure policy.