What’s “Bill Gates’ Favorite IPO?”

Checking out Chris Wood's healthcare and technology "#1 Stock for 2021" teased in ads for Healthy Returns

By Travis Johnson, Stock Gumshoe, February 17, 2021

Things have been a little slow here as your favorite Gumshoe puts in some sweat equity for our kitchen renovation project this holiday week, so please accept my apologies for not having written for a couple days. But I’m not completely drowning in dust, so I thought I’d take a moment to get a teaser answer out to you today — this one generated a few reader questions thanks to the “IPO” reference and, of course, to the Bill Gates name, which seems to be ever more a lightning rod.

The spiel is from Chris Wood for his Healthy Returns newsletter ($49 year “on sale” at the moment), published by Mauldin Economics. That’s an entry-level “healthy advice plus health investments” letter, something several publishers have tried, and I’ve only covered it once before, when Wood was pitching Esperion as his 10-bagger for 2020... and that one didn’t work out particularly well (yet, at least), so we can let that be our calming influence as we get revved up by the pitch today.

Here’s how he gets us going in the spiel…

“My #1 Top Stock for 2021 sits in the sweet spot right at the intersection of the two most powerful money-making trends on the planet.

“Healthcare and Technology. This little-known software company is disrupting the pharmaceutical industry.

“It has developed a proprietary digital platform that drug companies desperately need. It’s cutting-edge emerging technology that can quickly—and accurately—predict drug discovery testing outcomes.”

And the Mr. Softy connection…

“Bill Gates, the software king, is a HUGE backer of this company. He’s poured in $301 million in venture capital already!”

We also get some other validation, since apparently these guys already have partners and connections…

“… the top 20 Big Pharma companies such as Biogen, Bayer, Johnson & Johnson, and Pfizer are very happy customers of this breakthrough software company. You may recall Pfizer was first to announce an effective COVID vaccine in record time—after only 10 months in development!

“It’s possible this company’s software played a major role in Pfizer’s ability to bring a vaccine to market so quickly….

“In addition to the top 20 pharma companies, 1,250 academic research institutions also license the company’s software. The company has a jaw-dropping 96% customer retention rate.”

And then some metrics we can use to double-check the Thinkolator’s results…

“Revenue growth rates in 2020 for this company have been a staggering 35%. And I believe growth would have been even stronger without the COVID headwinds.

“In 2020, this company made its public debut raising $232 million in its IPO. In less than a year, this company’s price has already rocketed 245%! Market cap is now over $6 billion.

“And Bill Gates is one of their largest shareholders with a 12.5% stake. Gates now owns almost seven million shares of its stock….”

And another celebrity investors is an endorser of this one, too…

“Widely respected Citron Research says this company’s ‘runway for growth is massive.’

“Citron reportedly told its elite clients that investing in this company is like ‘investing in early Tesla, only better!’ And look how well that turned out for early investors….

“Tesla’s IPO was in 2010—also at $17 a share. Tesla ended 2020 over $700! That’s a 4,151% increase in 10 years!”

So… hoodat? Thinkolator sez this is drug discovery/software company Schrödinger (SDGR). Here’s how they describe themselves:

Schrödinger’s industry-leading computational platform facilitates the research efforts of biopharmaceutical and industrial companies, academic institutions, and government laboratories worldwide. Schrödinger also has wholly-owned and collaborative drug discovery programs in a broad range of therapeutic areas.

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Schrödinger is deeply committed to investing in the science and talent that drive its computational platform. Schrödinger was founded in 1990, has over 400 employees and is engaged with customers and collaborators in more than 70 countries.

The company has been around for 30 years or so, and did indeed get early investments from David E. Shaw about 20 years ago, then from Bill Gates about ten years ago, and they’ve gradually built through collaborations and have sold, spun off or partnered off a number of drug discovery projects. The Bill and Melinda Gates Foundation has sold off a few million shares of SDGR over the past year, but they remain the largest shareholder (I haven’t checked to see what Gates paid over the years, but they currently own ~7 million shares of common stock after their last sale of two million shares in November, plus another ~9 million limited shares that they can convert to common stock as they like).

The reason for possible optimism is probably from Schrödinger’s drug development collaborations, not just from the software sales and licensing — they can do quite well from selling their software and their analytical and materials science prowess, and there is some potential for that to snowball as they get more partners using their technology and then build that into more collaborations, but with revenue growth of 30% and a price/sales ratio of almost 70, investors are clearly expecting more than just a solidly growing software company. The software sales are the foundation, the upside excitement will come either from many years of that software snowballing into a larger part of the market, something every drug developer needs… or, as seems likely to be the focus right now, from commercializing the technology in specific molecules by developing drugs that lead to meaningful royalties.

The latest bullish surge in sentiment came after they made a big deal with Bristol Myers (BMY) in November, and some of their collaborations have led to approved drugs in the past.

The technology sounds pretty cool, frankly, with the focus on physics and the ability rapidly screen protein structures and molecules and let the software help to identify targets, though I can’t claim to understand it very well. They do have an investor presentation here that tries to walk you through how it works, and how their software and their and drug discovery systems play off of each other. The basic premise is that their drug discovery platform, fueled by their software and machine learning, enables them to design a new drug better and faster — a molecule that is both more optimal for the various needs, since it was screened for that from the beginning, and that also is ready for development in half the time (2-3 years instead of 4-6 years).

I’m not sure how the software deals work, but they already have the top 20 drug companies on board as long-term customers (as teased), and they say they have a 96% retention rate for large customers (those who spend more than $100,000 a year), so that sounds good — but whether those big customers will spend more and more each year, I don’t know… they have slowly ramped up the number of customers who spend more than a million dollars a year, but I don’t know whether there’s potential for that business to accelerate or not.

On the drug discovery side, they do have two approved drugs (from Agios), plus a few in Phase 1 or 2 or likely to file a IND with the FDA to start clinical trials soon, but almost all of their collaborations are still firmly in the “discovery” phase where they’re trying to identify new drug candidates… so stuff like milestone payments and royalties will probably trickle in very slowly in the coming years. They do also own some stakes in their collaborators, particularly the smaller ones or the ones that they spun off in the past — and a couple of those have themselves gone public, so they own about $20 million worth of both Relay Therapeutics (RLAY) and Morphic Holding (MORF), for example, so perhaps those have future potential, but neither of those assets really makes an impact on a $7 billion company like Schrödinger in the near future.

It has certainly been a hot year for these kinds of “picks and shovels” plays in biotech — the companies who provide materials, software and support to biotech companies. That’s partly because the biotech sector is both running all-out in some areas, particularly anything related to vaccines or pandemic response, but also partly because there is so much capital surging into the biotech space, and all those new startup biotech companies have venture capital $$ burning a hole in their pocket as they lease space, buy equipment and order software and services. And all of them want to work faster and better than their forebears, so computer-aided drug discovery and analysis, whether from Schrödinger or from simulation/modeling companies like Simulations Plus (SLP) or Ansys (ANSS), seems to be ever more important.

And if it’s just that Tesla name-drop that excites you, we should note that this company has already been up more than 500% in a year, from its $17 IPO in February of 2020 to today’s $105 or so. Tesla did indeed do that, too, but it took then about eight years. Maybe it will scale dramatically higher at some point, but I don’t see any specific reason why it should.

If I were to buy SDGR (I’m not planning to at the moment), it would not be on a near-term bet that something big will happen, it would be on a bet that they might have a dozen good things happen over the next five years, with the growing software sales helping them to avoid burning too much cash while they wait for drug development deals to become commercially meaningful, and I’d try to mostly ignore the share price in the interim — it will probably be a long time before the business catches up with the market valuation, but you can see that it’s clearly possible if the trajectory of their software sales continues and their collaborations yield some fruit and begin to generate meaningful revenue at some point. The main risk today is that, as with so many popular growth stocks, current valuations mean you’re prepaying for quite a bit of success that might or might not happen in the future. Bill Gates waited 10 years before he started selling shares, you might have to wait a bit as well.

There are only a couple analysts making guesses on SDGR’s future, but right now they expect the company to become profitable next year and for revenues to double between 2020 and 2022. They have continued to raise their price targets over the past few months, but they can’t keep up with the investor enthusiasm for the shares.

I’ll leave it there, because I do not have a finger on the pulse of the biotech business or have any great convictions in this area — the one thing I know for sure in biotech, as I’ve told our readers before, is that the person I’m buying shares from probably knows a lot more about the science than I do. And that’s not a comfortable situation for a long-term investor to be in… doesn’t mean it can’t work out, either for a nimble trader or for a more patient person who has great conviction on the scientific merit of a company’s programs, but I certainly don’t have any “edge.”

So I’ll turn it over to you, dear readers — see great potential from Schrodinger as they build on their software and drug discovery platforms? Sad that they were unable to get the CAT ticker symbol? Looking for a quick surge, or hoping for a pullback? Let us know what you think with a comment below… thanks for reading!

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February 17, 2021 1:13 pm

Recommended in one of MF’s portfolios.

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February 17, 2021 3:50 pm
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