After announcing that it would get a $50 million investment from NVIDIA (NVDA -1.84%) on July 12, Recursion Pharmaceuticals (RXRX 0.58%) saw its stock blast off, rising 87% over the following two days. According to the press release announcing the private investment in public equity (PIPE), NVIDIA will now have access to Recursion's treasure trove of biochemical and genetic data; NVIDIA will use this to train machine-learning models in support of its new BioNeMo service, an artificial intelligence (AI) tool to help discover new drugs. At the same time, NVIDIA will help Recursion improve its own models for drug discovery.
Based on the market's reaction to the news, investors have high hopes for the collaboration's impact on Recursion's future prospects. But does that mean it's worth buying right now?
The case for loading up on shares today
The most important reason to consider buying this stock is that it's already one of the leaders in the emerging field of AI-facilitated drug development, and the new collaboration with NVIDIA could supercharge its chances of hitting one or more home runs.
Recursion is developing a handful of medicines, and it's also looking to license its data to outsiders while forging collaborations. To succeed in all three of those goals, it will need to use AI to capitalize on its 23 petabytes of biological information, to make development timelines shorter and reduce the risk of failure in clinical trials.
It has a trio of programs in midstage clinical trials, and only one in phase 1. That means there'll be at least a few years before it can commercialize anything to make revenue from sales. But if its promises of more efficient drug discovery and development come true, its programs today could be just the first of many, and that could make shareholders rich in time.
So far, pharma giants like Bayer and Roche think that the biotech is worth taking a chance on via collaboration. Though the company isn't anywhere close to being profitable yet, its collaboration deals resulted in $12 million in revenue in the first quarter. And it had $473 million in cash and equivalents in the same period, whereas it only burned around $121 million in cash during all of 2022. So it has at least a few years of runway, and now a handful of major global companies are also backing it.
You'll need to be ready to pay the hype tax, and it isn't cheap
The biggest disadvantage of buying shares of this company right now is that its shares are heavily bid up by hype surrounding artificial intelligence, which means that you'll be paying a lot to gain control of not much revenue. Recursion's price-to-sales (P/S) ratio is 47, and valuations don't get much higher than that for biotech companies. But the collaboration with NVIDIA isn't even the primary culprit: At the end of June of 2022, its P/S was even more ridiculous, at 109. So the deeper story of the valuation is that the market's expectations have been sky-high for quite some time.
Just as the market can be exuberant about a stock when times are good, when times get tough or when financial performance is weaker than anticipated, shares can crash just as fiercely as they rose. The most obvious catalyst for such a crash would be the petering out of the AI frenzy, which could happen if the current wave of AI-enabled companies and projects fail to deliver the fantastical results that the market is now pricing in.
Historically there have already been multiple "AI winters," in which practical obstacles to further progress in the field of AI led to widespread disillusionment and decade-long stretches of public disinterest and minimal investment. There's no guarantee that such a bust will occur again, or anytime soon if it does. But it might, and that'd probably be very bad for Recursion's shareholders, especially those who purchased stock at today's valuation.
Of course, there are also significant execution risks in the company's pipeline programs, collaborations, and licensing activities. Its clinical trials could fail to yield safe and effective medicines, and its other segments might fail to find willing partners or customers. So this business faces the standard risks of an early-stage biotech, along with the risks of a company with an information technology platform. But it's also entirely possible that having multiple segments could lead to multiple successes, and with a powerful ally like NVIDIA at the ready, the chances of pulling through are higher.
At the moment, I think Recursion is a gamble to buy, as its core thesis that it can improve drug discovery and development with the help of AI is not yet proven. Don't buy this stock if seeing a big drop would make you anxious.
Nonetheless, AI-enabled research and development (R&D) for biotech isn't just a fad; it's almost certainly going to be an enduring feature of the industry. And that means if you're in a position where you can make a (small) risky bet on this stock without endangering your portfolio, it's probably worth doing.
