Freshly listed on the NASDAQ following a business combination with VG Acquisition Corp, a special purpose acquisition company (SPAC), the consumer genetic-testing maven 23andMe (ME +0.00%) is at the very start of its growth story. Since trading as a combined entity commenced on June 17, the stock's price has fallen from its high of around $13.30 to its current level near $11.85. Now that the froth is subsiding, investors are wondering at what price it will make sense to buy the stock to start a position for a long-term hold.
In my view, this stock's growth story justifies its current price, but you'll need to hold onto it for a few years before seeing returns skyrocket. Let's explore why.
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Why 23andMe could be a good addition to your portfolio
23andMe's direct-to-consumer health service is the company's staple offering; it provides information on genetic risk factors for a handful of different diseases. It also gives guidance about whether an individual is a carrier of genes that are linked to genetic diseases like cystic fibrosis or sickle cell anemia. Importantly, 23andMe's health-service offerings are becoming more developed over time as it secures regulatory authorizations to disclose information harvested via testing.
But for customers to access these newly released health reports after their genes have been sequenced, they'll need to pay for a yearly membership subscription, which gives the business a bit of recurring-revenue potential.
One of the other foundations of 23andMe's consumer-facing, genetic-testing business is its ancestry service. The service uses customers' genetic data to reveal things like where their ancestors were from and which living people they're related to. In total, its consumer-facing businesses brought in 89% of the company's $305 million in revenue during 2020.
Its gene-sequencing kits have been used by upwards of 11.3 million people, 8.9 million of whom have consented to having their data used for the company's research activities. This massive biobank of genetic data is the most relevant contributor to the company's growth prospects. Using the data, 23andMe's researchers can identify new targets for new drugs, which they can then build into clinical programs for in-house development, or sell the targets to other biopharma companies. Pharma giant GlaxoSmithKline (GSK) is already partnering with the company to pursue drug-development collaborations in exchange for a $300 million equity investment.
Looking ahead, you can expect the collaboration with GSK to be one of the major drivers of research-services revenue. If things continue to go well, it's feasible that another equity investment might be in the cards too.
Recognize the warts
23andMe has a lot of growth potential in the long term as a result of its drug-development programs and collaborations. But investors should know that the company isn't expecting to bring in as much revenue as it did in 2019 until sometime after 2024. In 2021, management predicts a total of around $247 million in revenue compared to 2020's sum of $305 million. And even in 2019's bumper crop year of sales, it wasn't anywhere near being profitable.
Then there's 23andMe's drug-development pipeline. It's exclusively early stage. Its most developed program is in early phase 1 clinical trials to treat patients with advanced solid tumors. While it's true that some of the company's preclinical programs will eventually enter trials and give the stock a bump, it's hard to see any new revenue actually rolling in from therapy development for at least several years.
In brief, the company's largest revenue segment, consumer testing, is expected to shrink. Its research services and collaboration revenue aren't expected to make up the difference even as the company grows. And its in-house therapy projects won't yield anything for years -- if they ever do.
However, it's precisely these long time lines and near-term headwinds that make the stock a great contrarian buy. Projected revenue over the next few years is a distraction from the company's real value, which rests on its ever-growing biobank of genetic data, thanks to the growing community of people using genetics to identify, treat, and prevent diseases. As long as that keeps expanding year over year, which it should under reasonable assumptions, 23andMe's ability to identify new concepts for drugs will only increase.
