Although home run stocks, or equities capable of producing life-altering returns in a short period of time, are far from commonplace, the biopharmaceutical industry has been fertile ground for explosive growth vehicles for a number of years now. The core reason is the industry's ongoing innovation bonanza. While developing pharmaceuticals is fraught with risk at nearly every step, several clinical-stage biotechs have, in fact, overcome these long odds over the past 10 years to bring important new medicines to market. And the market has often richly rewarded the select few biopharmas that have successfully transitioned from a clinical-stage company to a commercial operation. Aurinia Pharmaceuticals, Catalyst Pharmaceuticals, and Novavax are just a few of the more recent examples:
On the flip side, the market has severely punished the share prices of biopharmas that have stumbled at some point during this long journey toward a commercial-stage product. Investors, in turn, ought not overlook the extraordinary risks associated with potential home run plays in the complex world of biopharmaceuticals.
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Which developmental biopharma stocks have the most compelling risk-to-reward ratio right now? My single highest-conviction play within this risky segment of the market is Axsome Therapeutics (AXSM -0.35%). Here's a breakdown of the potential risks and rewards associated with this intriguing growth stock.
Axsome Therapeutics: A biotech with multiple catalysts on the horizon
Axsome is a central nervous system drug specialist. Currently, the biotech has two drug candidates under review with the Food and Drug Administration (FDA). A regulatory decision for its major depressive disorder (MDD) candidate, AXS-05, is due out any day now. The FDA is slated to make a decision on the biotech's experimental migraine therapy, AXS-07, by April 30, 2022. Axsome estimates AXS-05's peak annual sales for MDD at between $1 billion to $3 billion. The company believes that its commercial opportunity in the crowded migraine space stands at between $500 million and $1 billion per year.
Another important issue to note is that the biotech is also trialing AXS-05 for Alzheimer's disease agitation. Pivotal top-line data for this second indication are due out in the first half of 2023. As the first drug specifically approved for Alzheimer's disease agitation, AXS-05 should easily be able to rack up over $1 billion in annual sales within its first three years on the market. All told, Axsome's two lead drug candidates have a real shot at generating between $3 billion and $5 billion in annual sales by 2027. That's an enormous revenue stream for a company currently valued at roughly $1 billion.
The real reason this biotech stock lands on my high-conviction list, though, has more to do with its downside risk. While most home run stocks have the potential to lose nearly all of their value on bad news, I think Axsome's shares are well insulated from a total collapse. Speaking to this point, the company sports two late-stage drug candidates, a robust earlier-stage pipeline, and its current valuation doesn't appear to reflect even a small fraction of the combined commercial opportunity of AXS-05 and AXS-07. Axsome stock, in short, isn't a potential landmine.
An asymmetric risk-to-reward ratio
What is Axsome's downside risk? As a rejection for AXS-05 would likely hinge on a technical issue at this stage of the game, it's hard to imagine the biotech's stock dropping by more than 30% in response to this event. Axsome, after all, would probably be able to refile the drug's application within a matter of months.
In terms of upside potential, Axsome's shares will surely double in value -- at a minimum -- if AXS-05 gets approved with a clean label. And if AXS-07 gets a green light from the FDA later this year as well, Wall Street's consensus 12-month price target, which implies a 150% upside potential, is definitely within the realm of possibility.
All things considered, Axsome's upside potential far outstrips its downside risk. So, if you're on the hunt for life-changing growth opportunities, this small-cap biotech stock ought to be on your watch list right now.
