Is Madrigal Pharmaceuticals stock a buy?

Are we witnessing the rise of a new leader in biotechnology? Madrigal Pharmaceuticals (MDGL 2.58%)a mid-cap company, could have as decent a chance of becoming as prominent in the field as most of its peers of similar size.

Earlier this year, the company won Food and Drug Administration (FDA) approval for Rezdiffra, a therapy for the liver disease non-alcoholic steatohepatitis (NASH). This milestone is impressive for one simple reason: Many drugmakers, including some with far more experience and resources than Madrigal, have tried and failed to develop drugs for NASH.

Madrigal is the first to market, but is that enough to make the stock a buy? Let’s find out.

There is more to the Rezdiffra story

NASH is caused by the accumulation of fat in the liver. As the name suggests, it is not due to heavy alcohol consumption. It is, however, linked to obesity and type 2 diabetes. NASH can lead to liver scarring (fibrosis), among other serious health problems.

The approval of Rezdiffra was a welcome development given that, along with diabetes and obesity, the prevalence of NASH has increased. There is a great need for treatment options, and Rezdiffra will help fill that need. So far, so good.

However, the drug was launched under the fast-track approval pathway, which means it will need to produce more positive efficacy data in confirmatory studies to gain full approval. Otherwise, the FDA could take it off the market.

But provided that doesn’t happen, Rezdiffra’s potential looks exciting. Madrigal plans to focus the launch of his gem on the 315,000 NASH patients who see specialists. Some analysts are predicting peak sales of more than $4 billion or even $5 billion.

There is competition on the way

Although Madrigal was the first to market in NASH, many prominent drugmakers are now following in his footsteps. The list includes Eli Lilly and Novo Nordisktwo pharmaceutical leaders that no one wants to compete with in the drug industry. These two have a lot more resources than Madrigal, so they will likely be able to target a much larger market than the smaller biotech.

This is where Madrigal Pharmaceuticals could have benefited from a licensing agreement with a larger company with deeper pockets. It almost certainly would have been able to follow many more patients in the US, where there is an estimated diagnosed population of 1.5 million NASH patients.

And there is a substantial and growing NASH market worldwide. According to some estimates, 26.5 million people will suffer from the disease by 2032 in some key markets, including the US, some of the largest European economies and Japan. That number was just over 22 million in 2022.

Madrigal Pharmaceuticals likely lacks the funds to dominate the global NASH market. One way the company could maintain its lead, at least in the U.S., is to capture enough market share before any other drug gets approval and hope that Rezdiffra aces its confirmatory trials.

Is the stock a buy?

Madrigal’s work in treating NASH has been impressive so far, but is it enough to give the company a path to prominence in the biotech industry? The company’s stock will fall off a cliff if Rezdiffra fails to prove effective in further studies.

The risk of other drugmakers eating their lunch is also real — and significant. Madrigal has no other drug on the market and no other drug (that we know of) in development. Being a one-trick pony isn’t necessarily a deal-breaker, especially for a relatively small biotech (its market cap is currently $5.3 billion).

And its groundbreaking achievements in NASH suggest that the company’s research team could produce more breakthroughs in the future. But for now, the stock looks relatively risky, even though there is plenty of upside potential. That’s why I’d advise hedging your bets here. Risk-tolerant investors might consider starting a small position in the company and adding more as it makes clinical and regulatory progress. This approach could lead to outsized profits in the long run, provided enough things go right for Madrigal Pharmaceuticals.

If something goes wrong — specifically, if something goes wrong with Rezdiffra — investors could be left holding virtually worthless stock. So the shares are not attractive to risk averse investors.