There is hardly such a thing as a risk-free investment, no matter where you care to look. However, some investments tend to be more risky than others. And in the equity markets, the biotech sector tends to have more than its fair share. Yet, risky stocks can also often offer attractive upside potential.
Let's look at two examples: Recursion Pharmaceuticals (RXRX 3.57%) and Madrigal Pharmaceuticals (MDGL -0.54%). These two clinical-stage biotechs could make their shareholders much richer, provided things break their way.
1. Recursion Pharmaceuticals
Creating novel therapies, from the discovery stage to eventual approval, takes years and plenty of money. Recursion Pharmaceuticals wants to improve things by using artificial intelligence (AI). The company uses a proprietary operating system that houses a database of genes within the human body and machine learning algorithms that run experiments to predict how some clinical compounds would interact with some genes.
Has this approach led to any significant breakthroughs? It's a bit early to say. Recursion currently has nine programs in its pipeline. Three of them are in phase 2 studies. Not one has made it past that stage. However, Recursion's approach could allow it to launch its products on the market faster than other biotechs.
And presumably, the more its operating systems discover promising compounds, the more accurate and predictive it will become, leading to an even faster process next time around. This could allow Recursion to save a lot of time and money. The risks associated with the company cannot be overlooked, though. As usual with clinical-stage biotech stocks, Recursion's performance will largely depend on clinical and regulatory progress in the medium term.
Investors will want to see results no matter how innovative its strategy is. If it fails to deliver them, its shares could fall off a cliff. Could funding also be an issue for Recursion Pharmaceuticals? It ended the second quarter with cash and equivalents of $405.9 million, not including a $50 million equity investment from Nvidia.
Recursion also has a collaboration in place with Roche where the two entities seek to co-develop therapies in oncology and neuroscience. In other words, Recursion's novel approach has helped attract the business of larger companies. But the biotech company will almost certainly have to resort to dilutive forms of financing well before any of its programs land on the market -- it's practically par for the course for clinical-stage biotechs.
Investors should keep that in mind. Recursion Pharmaceuticals' prospects look attractive, but only if it can nearly flawlessly execute its still unproven strategy. If it fails, the shares might not be worth much in a few years. Invest accordingly.
2. Madrigal Pharmaceuticals
Madrigal Pharmaceuticals is also a clinical-stage biotech, but one of its programs has already aced phase 3 studies. In fact, it is currently being considered for approval by the U.S. Food and Drug Administration (FDA). The candidate in question is called resmetirom, a potential therapy for nonalcoholic steatohepatitis (NASH). There are no Food and Drug Administration (FDA)-approved treatments for NASH, a condition that causes scarring and inflammation, and other problems, in the liver.
The NASH market is projected to skyrocket through the end of the decade. And although several biotechs are on this trail, they are all currently playing second fiddle to Madrigal. The company could earn the green light from regulators in the U.S. by March 2024.
Research firm Evaluate Pharma projects that resmetirom could generate as much as $2.2 billion in sales by 2028. So, it seems Madrigal is doing just fine, but it's not that cut-and-dried. The company's market cap is currently $2.7 billion, even after the beating it took this year. And although resmetirom looks highly promising, Madrigal Pharmaceuticals has no other product on the market and no other candidates anywhere close to approval.
In other words, its performance will depend entirely on what happens to this sole therapy -- all of Madrigal's eggs are in one basket. Some things that could go wrong include an unforeseen problem that leads to the FDA delaying resmetirom's approval, the launch of the medicines not going as planned, or other therapies joining the market and taking much of its projected market share.
If any of that happens, Madrigal Pharmaceuticals' shares could remain southbound. Still, the company developed a highly promising NASH candidate where many others -- including much larger drugmakers -- couldn't. Risk-off investors can certainly consider adding a small position in this biotech stock.
