Is Recursion Pharmaceuticals a Warren Buffett stock?

Recurring pharmaceuticals (RXRX 0.54%) doesn’t look like a stock legendary investor Warren Buffett would typically be interested in. It’s in the biotech industry, which tends to be volatile and often difficult to understand, with no significant recurring revenue or profits for many of the newer stocks in the sector. To further complicate matters, Recursion is involved in the nascent field of artificial intelligence (AI) drug discovery and development, meaning it lacks any of the long history of consistent performance that Buffett looks for. usually in an investment.

But if the company achieves its ambitions, it could become something much closer to what the Oracle of Omaha prefers. Here’s why it’s possible and how it can happen.

Bypassing this blocking point is part of the plan

Traditionally, Buffett does not favor businesses that must spend a large portion of their revenue on research and development (R&D) expenses. High research and development costs imply that the company does not have a strong enough competitive advantage to protect its market share from competitors. After all, if they have to constantly improve their products or invent new ones to keep earnings growing, it could only be a matter of time before the innovation engine fizzles out and leaves investors wanting growth.

That’s part of the reason he rarely invests in biopharma companies like Recursion. Even the best pharma players tend to spend a large portion of their revenue on research and development, and are far from immune to facing costly setbacks that disrupt the growth that shareholders have penciled in. In fact, Buffett currently does not own any pharmaceutical stocks. any.

However, Recursion’s vision is to at least partially solve this root problem through both its technical innovations in drug development and its business model.

The biotech’s claim to fame is its drug discovery and development platform, which relies heavily on artificial intelligence, machine learning and lots of specialized data. The purpose of using AI is that it can help management select and optimize the most promising candidate molecules to advance through each phase of the preclinical research process, potentially reducing late-stage failures while saving money and time along the way. Ideally, its platform also translates into better clinical trial data and faster progression to commercialization.

The jury is still out on whether Recursion can actually deliver those improvements over the traditional drug development approach. However, if it does, it will realize three distinct paths of growth. The first is simply to develop new drugs and market them on its own, while the second is to collaborate with big pharma who want to use its platform for their own purposes, and the third is to license access to its platform or to its data warehouse. .

And that’s where Buffett’s ears might start to perk up.

Licensing access to a platform is a very inexpensive way to generate revenue, and if customers consistently derive value from gaining access, it would indicate a competitive advantage by reducing biopharma R&D costs. Additionally, if collaborators are willing to pay a lot of milestone payments to get more hands-on help from Recursion, there’s a good chance they’ll be willing to sign on the dotted line for the biotech to earn significant royalties from whatever drugs collaborative products — another low-cost revenue stream.

Ultimately, if — and this is a big if — Recursion can really reduce the failure rate of its own development projects compared to competitors by using its platform, it might even commercialize drugs regularly enough to to satisfy Buffett’s desire for stable earnings. long term growth.

This biotechnology is not yet in its final form

Time for a quick reality check. According to its Q2 earnings released on August 8, Recursion’s R&D expenses were $73.9 million and its revenue was just $14.4 million. That puts its R&D expenses at more than 513% of its quarterly revenue, which is a ratio Buffett would almost certainly find disqualifying.

However, a lot could change in the next few years. Recursion merges with Exscienceanother AI-enabled biotech leader pursuing new approaches to drug development and between them expects to report about 10 clinical trial readouts in the next 18 months. Each of these readings is a (small) piece of evidence that could sway for or against Recursion’s thesis about the effectiveness of its platform.

Over the next four years, it could get up to four of its pipeline programs approved for sale. This means that within five years it should be possible to make a more definitive judgment on the merits of its AI-based approach and its potential to generate more revenue on a regular basis in the future.

Until then, it can’t be a Buffett stock. But in the long run, if it delivers what it claims to have today, it’s still very possible to meet Warren’s strict specifications.