Summary
Recursion completed one of biotech's biggest ever IPO's in 2020, raising >$500m.
The company wants to "decode biology," which strikes me as a little too ambitious.
The business model is all about attracting biotech and pharma clients and earning milestone payments by developing good drug candidates.
That's a pragmatic business model and Recursion perhaps has not quite understood that pharma is not tech - its end users being sick patients.
Recursion has put together an intriguing pipeline with some intriguing targets - although none yet for its biggest partners Bayer and Roche. To my mind the company could benefit from a more pragmatic approach.
da-kuk
Investment Thesis
Last time when I covered this company, I gave Recursion Pharmaceuticals'$Recursion Pharmaceuticals, Inc.(RXRX)$ stock a "HOLD" rating and suggested that the company was "not yet derisking drug development with AI."
Shares are actually up 8% since my note, although at the beginning of May they traded at a value of just $4.5 - down >70% since the company launched the sixth largest biotech IPO this decade, raising >$500m at a price of $18 per share.
It seems that the market - having abandoned ship during a brutal biotech run through most of 2022 - is getting back on board with AI-driven drug discovery - in May Recursion's stock price is up >80%.
I was fairly critical of Recursion in my last note and I also have been critical of other AI-driven drug discovery companies, or indeed any company that claims to be "revolutionizing" the drug discovery process with supercomputers, a brain trust of relatively inexperienced PhD students, or incredible amounts investment from hedge funds and investment banks who believe drug development can be rapidly de-risked with data analytics and algorithms.
As I wrote in my last note on Recursion:
In an introductory video on Recursion's website Recursion states that today, ~90% of all drug candidates ultimately fail to get approved, and that the total amount invested in each new approved drug is >$2bn.
In many ways the above statement highlights both the biggest strength and the biggest weakness of Recursion's business model. The company says it can help drug developers increase their chances of developing successful drug candidates using its technology - a potential strength.
But what if Recursion's technology is unsuccessful, and it becomes a net contributor to the wasted dollars invested in unsuccessful products? The latter is statistically more likely than the former, after all, unless Recursion is a truly revolutionary technology company, and there have not been too many signs of that to date.
It struck me that Recursion was a little heavy on jargon - the company calls itself a "techbio" company for example - as if that is somehow a progression from "biotech," which is itself a somewhat pretentious term - and light on drug discovery, supposedly its raison d'etre.
Perhaps I was a little over-critical - after all, retail investors like myself are hardly Recursion's target audience - the company wants to attract Big Pharma partners and venture capital investment - and it has done reasonably well in the former, and extremely well in the latter.
As of Q1 23 the company reported a cash position of $473m and a net loss of $65m, so at the current rate of cash burn the company ought to be able to fund its operations until for nearly two more years, and of course management's ambition is to start generating meaningful revenues as quickly as possible. Total revenues in Q123 were $12.1m.
Recursion's Path To Meaningful Revenue Generation Straightforward, Or Challenging?
If Recursion's charm offensive is aimed at hedge funds and big pharma, then its "Download Day" - the equivalent of every company's investor day - which took place in January represented a crucial opportunity to outline what its technology can do for its partners.
I covered some of these introductory slides in my last note so I will share just one before moving on to discuss the practical work that Recursion can do for its clients.
Recursion maps rise of AI-enabled drug discovery (Recursion download day presentation)
I find this slide intriguing as it shows that Recursion is just one of a vanguard of tech enabled drug discovery ("TEDD") companies, that includes the likes of Schrodinger $Schrodinger Inc.(SDGR)$, AbCellera $AbCellera Biologics(ABCL)$, market cap $2bn, Exscientia $Exscientia plc(EXAI)$, market cap $1.6bn, and Relay Therapeutics $Relay Therapeutics(RLAY)$, market cap $1.33bn.
It's interesting to note that many are still private companies, and of those that are listed, share price performance has been poor across the board, as shown below.
SP performance of listed TEDD companies since listing (TradingView)
Why have none of these companies hit the ground running? Recursion is, in fairness to the company, humble about its roots and the experimental nature of its business, as we can see below.
Recursion Pharma's experimental beginnings (Recursion Download Day presentation)
Arguably, there's some mixed messaging here, as at the same time as promising near 100-or-so-year-old pharmas like Pfizer $Pfizer(PFE)$, Bristol-Myers Squibb $Bristol-Myers Squibb(BMY)$, and Eli Lilly $Eli Lilly(LLY)$ a superior approach to drug discovery to that pioneered by these triple-digit market cap industry veterans, Recursion also seems to want to remind everyone of its startup roots.
Adopting the "move fast and break things" approach of e.g. a Facebook $Meta Platforms, Inc.(META)$, however, is a little different when the end users in question are planning to ingest the product and depend upon it to make the healthier.
In fairness to Recursion that's a problem for the marketing department, not the technical team, which do have some tangible progress to report.
Recursion - tangible progress to date (Recursion presentation)
The problem is that these numbers in isolation do not convey a great deal of meaning - is eight projects initiated, and four in 2022 a good score, or a poor one? Presumably it depends on what projects they are. Is 40m experiments a lot, or a little? It depends on the type of experiment. And so on, and so on. This is not edge of the set reading material for Big Pharma clients.
Speaking of big pharma clients, Recursion does have two - the same number as it had three months ago - in Bayer and Roche $Roche Holding Ltd(RHHBY)$. These are relatively significant agreements (even if they generated next to no revenues in Q123) - in Bayer's case, the company has pledged $30m upfront and a $50m equity investment, but more significantly up to $1.2bn in milestones for up to 12 programs - so nearly $14.5bn in total. Roche has pledged $150m upfront and ~$300m per program for up to 40 programs, or $12bn in total milestones.
As most biotech market watchers will be aware however, biotechs rarely, if ever, earn the full rewards on offer from these deals because it's almost impossibly unlikely that Recursion can deliver 40 approvable drug candidates to Roche, or even 12 approvable drug candidates to Bayer. Recursion, after all, is wrestling with billions upon billions of potential drug compounds on a daily basis, and the company would likely acknowledge itself that it may find one or two each year that can be advanced into preclinical studies, let alone approved.
Pipeline Must Grow - But At The Right Pace
Recursion pipeline (Recursion presentation)
Above is the pipeline slide Recursion shared back in January, and the Salt Lake City-based company was able to report some progress being made in its Q123 earnings press release.
The company's "exploratory Phase 2" study of REC-994 in Cerebral Cavernous Malformation has enrolled 80% of its planned participants, while a Phase 2 study in "AXIN1 or APC mutant solid tumors "remains on track to initiate in early 2024." Furthermore, a Phase 2/3 "POPLAR" clinical trial in patients with Neurofibromatosis Type 2 (NF2) has enrolled 90 participants, apparently, with interim safety analysis due in 2024.
The fact I have not come across AXIN1 as a target despite covering hundreds of biotechs in recent years might suggest that Recursion's supercomputers and "fail fast, fail better" approach has uncovered a viable new drug target, and that is something that's likely to attract the attention of big pharma, plus there is a novel CDK12-adjacent target identified that Recursion believes may be used to target ovarian cancer. Clostridioides difficile Colitis is the final disease target.
There are certainly some positives here - even if the Bayer / Roche deals have yielded no targets as yet - although is there genuine differentiation here from a "run of the mill" biotech gradually attempting to advance new drug candidates into and through the clinic? It's too early to talk about market opportunity, although that's not supposed to be Recursion's game, but it's partners game.
Recursion makes much of its ability to generate faster preclinical data readouts in animals - two months vs. one year for "disease induction" according to the "Download Day presentation, and 10 months to a validated lead, versus the industry standard 30 months, at a cheaper cost.
Recursion pace of development vs industry standard (Recursion presentation)
This is the kind of data that may persuade a larger biotech or pharma to partner with Recursion, in my view, but even if Recursion can slash time to lead development, it cannot necessarily supply a candidate with a greater chance of success yet, and it certainly cannot make a clinical study go faster, because patients are involved, and they must be watch for an appropriate period of time that is outside of Recursion's control.
Some Concluding Thoughts - Mixed Messaging and Questionable Marketing Aside, Is Recursion Investable?
Once again I have been quite critical of Recursion in this post, although I also acknowledge that it would be foolish to ignore the work the company is doing and acknowledge the number of clinical study starts.
However, Recursion - as I understand it at least - wants clients, not drugs to develop itself, and in that area the company seems to be falling a little short. Would Recursion struggle to raise fresh funding when its current funding runway runs out? Possibly not, given the recent uptrend in the company's share price, but management will at some point have to start generating revenues.
Any new drug discovery company needs to find ways to sell itself and its products, and "AI-enabled drug discovery" is one that certainly attracts the attention of hedge funds and investment banks, but not so much the biotech and pharma industry - at least to date.
That makes me a little skeptical about Recursion's business model and approach to selling itself to customers - probably my biggest gripe about the company. With Bayer and Roche on board, perhaps in 3-5 years' time there will be a substantial pipeline developed from these two collaborations only, although an established and pragmatic operator in the drug discovery space - a Ligand Pharmaceuticals $Ligand Pharmaceuticals(LGND)$ for example, typically has hundreds of clients. With so many new AI-driven drug discovery companies out there, it seems inevitable that some - perhaps many - will fail.
For me, Recursion's business model is almost about attracting human talent away from big pharma and selling it back to them in exchange for royalties and biobucks. That's a very different business model from the one that Recursion is trumpeting - without too much success to date. It's much more pragmatic and perhaps even a little cynical - good traits to have in the cut throat Pharma industry - perhaps Recursion should advertise them more.
Is Recursion investable - I actually expect the share price to tread water for the time being, and I'm excited to see how some of its pipeline assets play put in the clinic. In time however, Recursion has to show it can win more clients and secure the milestone payments and revenues that should be this company's bread and butter.
Source: Seeking Alpha
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