NetScientific PLC (AIM:NSCI) - new business model delivering returns
NetScientific (NSCI) is an active holding company that invests in, develops, commercialises and aims to realise returns from life sciences/healthcare, sustainability and technology companies. The share price has increased 150.1% year-to-date (YTD) as the company has delivered a strong performance on the investment portfolio, with published fair value (see p2) increasing by 50% as of 30 June versus 31 December 2020, and capital under advisory increasing 25% over the same period. This performance has provided the first major validation of the turnaround effort that was instigated when the new chief executive officer (CEO) and chairman were appointed in early 2020. Some of the key factors that have underpinned this turnaround include:
- A diverse portfolio of investments, which has shown strong recent progress
- A hands-on approach to driving value from investee businesses
- A capital-light business model that allows for better use of balance sheet resources
- 'Transatlantic bridge’ approach to realising value across a global portfolio
The ‘capital light’ model has been a major new emphasis within the group's strategy. The acquisition of EMV Capital in August 2020 has provided NSCI with a capital under advisory business line, allowing NSCI to leverage its in-house expertise to generate income from third-party capital in addition to investing on its own balance sheet.
Significant operational milestones in the owned portfolio have also been supportive of the group's share price performance. In particular, the ProAxsis medical diagnostics business and the GlycoTest liver disease diagnostics business have both recorded significant milestones. We argue these companies have benefited from NSCI’s focus on hands-on support and guidance to investee companies as well as the availability of shared resources.
Furthermore, NSCI has benefited from the strong 2021 share price performance of PDS Biotechnology, a NASDAQ listed life sciences company focused on cancer treatment. NSCI holds a 4.7% stake in PDS. The contribution of PDS is a vindication of NetScientific’s decision to retain the stake when evaluating portfolio holdings under the new management’s strategic review in 2020.
Active holding company strategy, 'capital light' model
In spite of the strong share price performance YTD, we argue that the current stock market valuation is still effectively anchored to backwards-looking indicators. In this report, we examine the share price valuation using a number of different approaches with a focus on our preferred valuation approach which applies market-based valuation methodologies to the different holdings within NSCI’s portfolio. Our base case scenario suggests a share price valuation of 176p or 52% upside to the current share price.
Valuation upside
Year end Jul 31 · 2020 · 2021 · 2022 · 2023
Revenue £M · 0.4 · 1.4 · 2.9 · 8.0
PBT · (2.4) · (2.0) · (2.0) · (0.5)
Net Cash · 1.3 · 3.9 · 1.9 · 1.8
NetScientific (NSCI) is an active holding company. It invests in companies in the life sciences, sustainability, and technology sectors, and then takes a hands-on approach in supporting the development and commercialisation of its investees, adding value through management support, incubation, advisory services and fund-raising support. NSCI’s strategy is to target value inflexion points in the investee company’s life-cycle, working to help the companies make the transition through these points, and ultimately realising value through full or partial exits.
The company has three different types of holdings:
- Subsidiary companies — investees that have become wholly controlled consolidated entities.
- Minority holdings — investees where NSCI holds a minority stake, but with a hands-on strategic engagement from NSCI.
- Capital Under Advisory — through its EMV Capital subsidiary, NSCI operates a venture capital style ‘capital light’ model of investing, syndicating investments for third party investors, with EMV providing support and oversight. EMV receives fee income as well carried interest that is realised upon exit.
The following schematic summarises NSCI’s main holdings, and advisory portfolio under EMV:
Holdings and strategy
NetScientific holdings
Source: NetScientific
Top four holdings account for over 90% of the current published valuation
NetScientific publishes ‘fair value’ estimates for its holdings that are based on the BVCA (British Venture Capital Association) methodology, which uses observable inputs such as the price from the last publicly disclosed third party funding round.
Under this valuation, over 90% of the value of the portfolio comes from the top four holdings:
- ProAxsis — a wholly-owned subsidiary based in Northern Ireland, concerned with diagnostics technologies
- PDS Biotechnology — a minority stake in a NASDAQ listed biotech that develops immuno-oncology therapies
- GlycoTest — a US-based subsidiary company focussed on diagnostics for life-threatening liver disease
- EMV Capital — A wholly-owned subsidiary syndicating investments with third-party capital
The following table summarises the valuation breakdown:
Portfolio summary
Source: Proactive Research, NetScientific figures
We believe that NetScientific has a compelling strategy to drive further value from the existing portfolio, to execute on a pipeline of further opportunities, and to source additional investee opportunities and additional third-party funders.
Diverse portfolio, successful turnaround, capital-light business model
Some of the key attributes of NSCI that underpin our expectations include:
- A diverse portfolio of investments, showing strong recent progress. The strong performance of the NSCI share price YTD reflects gains in the NASDAQ-listed PSD Biotech holding and commercial progress for ProAxsis and Glycotest
- New management (since 2020) has delivered a proactive approach in turning around core investee businesses. Recent operational milestones, particularly at ProAxsis and Glycotest, highlight the progress that has been made
- The capital-light business model allows for better use of balance sheet resources. Through EMV Capital, investees gain access to a broader investor base for ongoing financing, and NSCI shareholders benefit from an improved risk/return profile
- Transatlantic bridges. The company will benefit from a proposed cost-effective shared lab facility on the US east coast, and a variety of two-way synergies between holdings in the US and UK/EU
We believe that these strategic strengths provide a platform for further share price upside, and we examine the valuation in detail on p10-12.
Background and direction of travel
NetScientific was listed on the London AIM market in 2013, with the support of Woodford Investments as a core shareholder. It has been well documented that Woodford encountered some major difficulties in the 2016-2019 period that led to funding constraints for investee businesses including NSCI, and led to forced portfolio liquidation by Woodford. The Woodford stake in NSCI was divested to Schroders Investment Management, who then began an orderly sell-down of the stake.
In the first quarter of 2020 the company appointed a new chairman, John Clarkson, and a new CEO Dr Ilian Iliev. The incoming management team adopted a new strategic framework for the company, encompassing:
- A more hands-on approach to supporting and developing investee businesses
- A more structured approach to realising value from the portfolio with a focus on tangible valuation Inflexion points
- The introduction of the ‘capital light’ business model with the use of capital under advisory in addition to on-balance sheet investments
Strategy realigned and balance sheet recapitalised
Since the change of management, NetScientific has advanced the implementation of the new ‘capital light’ model through the acquisition of EMV Capital. Furthermore, the company has achieved a recapitalisation of the balance sheet, with an oversubscribed £7.7mln share placing in June 2021. Also of importance to shareholders, the last of the Schroders holding has been liquidated, eliminating the last of the share price overhang from Woodford Investments.
The following diagram illustrates the main corporate events that have brought NSCI to its current state.
Timeline
Source: Proactive Research
In addition to the corporate developments that have refreshed the financial structure and shareholder structure, NSCI has benefited from some important milestones within its investee businesses during the last 12 months. These include:
Major operational milestones delivered across the portfolio
- The acquisition of the outstanding minority stake in ProAxsis, from QUBIS Limited and the founders of ProAxsis.
- A global in-licensing deal for ProAxsis with Astrazeneca for an assay for SARS-CoV-2 (the COVID-19 virus), providing an important new reference customer for ProAxsis’ diagnostics platform.
- EMV Capital advised on three fundraises for a total of £7mln, for investees SageTech, PointGrab, and Sofant Technologies.
- GlycoTest was granted new patents in the EU and the US for liver diagnostics technologies, taking the patent portfolio to 18 patents allowed or granted.
- PDS Biotechnology made a number of significant announcements – a funding commitment of up to US$60mln from the Brazilian Ministry of Science Technology and Innovation for a second-generation COVID-19 vaccine, significant milestones in the ongoing clinical trials for PDS’s Versamune immuno-oncology technology, and a successful US$52mln equity capital raise.
- Negotiation and investment in the Cambridge high-tech cluster through the acquisition of a stake in Martlet Capital and the establishment of the Marquity follow-on investment vehicle in partnership with Martlet and Saranac Partners.
We argue that progress during the last 12 months, both at the corporate level and within the investment portfolio, demonstrates the effectiveness of the group’s new strategy.
Directors
The success of the turnaround so far, and the continued growth going forward, are dependent on having an executive board that combines the necessary skills and experience financially and operationally.
The following thumbnail bios provide an overview of the NSCI management:
John Clarkson, executive chairman
- ex-PWC Legacy Partner in Charge, Developing Services Consultancy (incl. strategy & performance improvement)
- CEO of US start-ups and development projects
- Vice-chairman at Laura Ashley Inc. Restructuring & Turnaround
- Chairman of Technology Co., with Multiplier Growth
- Qualified accountant and MBA
Dr Ilian Iliev, CEO
- Founder and managing director of EMV Capital, a venture capital company in technology and healthcare
- Experienced investor, negotiator, strategist & hands-on manager
- Non-executive director (NED) at portfolio companies in UK, US, Israel
- Intellectual property (IP) commercialisation at CambridgeIP
- Previous work in energy, industrials, healthcare
- PhD Cambridge University Judge Business School
Prof. Stephen Smith, non-executive director, chair of Remuneration and Nomination Committees and Advisory Group
- Senior academic roles in University of Cambridge, Imperial College London and internationally, e.g. Australia, Singapore and Saudi Arabia
- Recent chairman of NHS Trust and NED of other companies
- Founded GNI Group, Tokyo-listed Cambridge University spin-out
Clive Sparrow, non-executive director, chair of Audit Committee
- Fellow of ACCA, a Chartered Public Finance Accountant
- NED & audit chair London Community Healthcare NHS Trust
- Director at HM Treasury, Change Programme
- Director at Grant Thornton and senior role PwC
Stephen Crowe, chief financial officer (CFO)
- Qualified chartered accountant, CAANZ
- Broad-based CFO/director, with 20+ years’ experience in financial institutions incl. AXA and Source (sold to Invesco (NYSE:IVZ))
- Commercial finance leader with an extensive skillset
Main holdings
We next examine some of the major holdings in the portfolio.
EMV Capital
EMV gives NetScientific the Capital-Under-Advisory business line
EMV Capital (EMVC) is a wholly owned subsidiary of NetScientific, acquired in August 2020. EMVC is a venture capital investment company that syndicates investments from family offices, corporate investors and institutional investors.
In addition, EMVC sources capital from EIS funds, including the EMV Evergreen EIS fund , which is managed by Sapphire Capital Partners with EMVC as an exclusive advisor. EIS funds are funds that invest in companies eligible for the Enterprise Investment Scheme (EIS), which is a scheme that provides tax advantages for UK investors in early-stage companies.
On behalf of its investment syndicate, EMVC sources the investment and structures the transaction, and then provides ongoing hands-on support and guidance for the investee company.
EMVC generates an upfront fee on closing a new investment for a syndicate, as well as some income from ongoing advisory fees. In addition, EMVC earns a carried interest of between 15-20% of the eventual gains on the investment, payable upon a successful exit.
The following chart illustrates the business model:
The EMV venture capital model
Source: Proactive Research
NetScientific can also participate in EMV investments using its own balance sheet
On future syndications, NetScientific can participate as a syndicate member using its own balance sheet (shown in the diagram), and to date NSCI has made a number of strategic investments in the pre-existing advisory portfolio that came with the EMVC acquisition, increasing NSCI’s influence.
EMVC increased its capital under advisory business to £18.2mln as of 30 June 2021, from £14.6mln at 31 December 2020. The company has a strong pipeline or further investment opportunities, and we expect continued growth in capital under advisory over the coming years.
PDS Biotechnology
PDS Biotechnology is a NASDAQ listed, US based life sciences company specialising in immuno-oncology; the development of therapies that enlist the body’s own immune system to fight against cancer (cancer is normally invisible to our immune system).
Three clinical trial programmes at the Phase 2 stage, progressing well
PDS has three Phase 2 clinical trial programmes in progress for the use of its Versamune platform to improve outcomes for patients with various different cancers. These are being conducted in collaboration with Merck, the National Cancer Institute, and the MD Anderson Center at the University of Texas. An update on clinical data from trials relating to HPV16 cancer led to strong share price gains in May 2021.
In addition, PDS is working on the use of the Versamune platform for the treatment of infectious diseases. In March 2021 the company was awarded a funding commitment of up to US$60mln from the Brazilian government as part of a consortium developing a new vaccine for COVID-19.
The strong progress in PDS’s development programmes has led to substantial gains in the stock price. The following chart illustrates:
Big gains YTD following clinical trial updates
PDS Biotech share price
Source: NASDAQ data
The gains in the PDS stock price have been a significant contributor to a 50% increase in NetScientific’s portfolio fair value and the 2021 interim results stage and has contributed to the gains in NSCI’s own share price YTD.
Glycotest
Glycotest is a US-based liver diagnostics company developing new blood tests for life-threatening liver cancers and fibrosis-cirrhosis. Glycotest’s lead product is its HCC panel, a biomarker panel for detecting curable early-stage hepatocellular carcinoma (HCC), the most common form of primary liver cancer. This product is undergoing clinical testing, which has already demonstrated significant performance advantages for the Glycotest product versus existing diagnostic technologies.
HCC testing market worth US$800mln per year in the USA. Further opportunity in China
The market for HCC testing alone is worth US$800mln per year in the USA. In addition, Glycotest has a revenue path for the HCC panel into the Chinese market. In October 2018 the company closed a US$10mln Series A funding round with the leading Chinese healthcare company Fosun Pharmaceutical. Under the terms of the agreement, Fosun Pharma acquired a 40% stake in Glycotest and an exclusive licence to manufacture and sell the HCC panel blood test in China with royalties payable to Glycotest.
The HCC panel study is ongoing. Although NetScientific has announced some technical delays to the programme, disclosed alongside the interim results in September 2021, we believe that the HCC panel is on track to become the company’s first revenue-generating product, with revenues by full-year (FY) 2023.
In addition, during the last 12 months, the company has expanded its intellectual property base with additional patents in the US and the EU and now has 18 issued and allowed patents for liver diagnostic technologies. We are forecasting a growing revenue stream in the 2023-2030 timeframe.
ProAxsis
ProAxsis is a commercial-stage medical diagnostics company based in Belfast, Northern Ireland, focused on diagnostic tests for serious respiratory disease including Cystic Fibrosis and Chronic Pulmonary Obstructive Disease. The company offers a range of tests based on its proprietary ProteaseTag technology that enables the capture, detection and measurement of biomarkers associated with specific diseases.
Five new products entering the market in 2022
In addition to the existing revenue streams, ProAxsis has five new products that could enter commercial use in 2022, significantly expanding the revenue base and advancing the company’s global ambitions.
Customers include leading pharmaceutical companies and academic research labs. In addition to customer revenues, the company also receives a regular income stream from UK government grant money, due to its focus on life sciences and its operational base in Northern Ireland.
Global in-licensing deal with AstraZeneca sets a benchmark
In June 2021 ProAxsis announced an exclusive global in-licensing agreement with the pharmaceutical company AstraZeneca. Under this agreement, ProAxsis will take responsibility for completing the validation and commercialisation of a COVID-19 assay developed by an internal research team at AstraZeneca. This deal gives ProAxsis exposure to COVID-19 diagnostics and also provides significant validation of ProAxsis’s clinical capability to partner with a major global pharmaceutical enterprise.
The following chart illustrates our revenue expectation for ProAxsis for the next three years:
ProAxsis revenues
Source: Proactive Research
We are anticipating a reduction in revenue in 2021e due to the impact of COVID, which has caused some customers to delay non-COVID clinical trial programmes. These programmes have not been cancelled, and we are confident of a return to revenue growth in 2022e with the new product launches and a resumption of activity from individuals who have paused trials.
We argue that ProAxsis provides a benchmark of NSCI’s ability to recapitalise and operationally upgrade an investee business.
Highlights within the advisory portfolio
Within the advisory portfolio, we highlight the following investees:
SageTech Medical is a UK based business focussed on the capture and recycling of medical anaesthetic gas. The company has run successful pilots in UK hospitals and is progressing with commercialisation. NSCI has a 24% managed stake through EMVC and participated in a £2.9mln funding round in 2021. This business is a good example of a holding where NSCI has started with a small position and then built on this position.
PointGrab is an Israeli company providing artificial intelligence-based smart sensor technologies for commercial uses. The company has a growing revenue base, with 18k sensors installed. NSCI has a 23% managed stake through EMVC, and participated in a £3.4mln funding round in 2021.
Sofant Technologies is a UK based company providing antennas for satellite and 5G applications. The company has made significant progress in product development and corporate collaborations within the rapidly growing SatComs industry. In October 2021, EMVC advised on a £843k fundraise, made up of £300k direct investment from NetScientific, £343k from private clients and £200k matched funding from the British Business Bank. In November 2021 Sofant received a €7.3mln contract from the UK Space Agency and European Space Agency to support the commercialisation of its low-cost, low-power SatCom platform.
Martlet
Martlet Capital is an investment company with a pipeline of investment opportunities within the Cambridge high-tech cluster in the UK.
In September 2021 NSCI announced that EMVC had co-led a first close of a £12.0mln investment into Martlet Capital, alongside leading private office Saranac Partners. This included a direct investment of £1mln from NSCI, with a plan in place to introduce syndicate partners that will reduce this investment to £0.25mln, reflecting the ‘capital light’ business model.
In addition, NSCI announced that a follow-up funding vehicle will be established in partnership with Saranac Partners and Martlet.
The Martlet deal provides NSCI with access to the Cambridge high-tech cluster
The important thing about the Martlet deal is that it provides NSCI with a strong access point into the world-leading technology cluster around Cambridge, England, both through the Martlet holding itself and through opportunities for NSCI to co-invest in new opportunities alongside Martlet. This represents a valuable increment to NSCI’s opportunity set going forward.
Valuation
Although the NSCI share price has increased by 52% YTD, we believe that the current stock market valuation is still effectively anchored to backwards-looking indicators. We believe that over the next 12 months there are likely to be catalyst events that may encourage the market to take a more expansive view.
As a framework we consider four measures of asset value:
Book Value:
This is the accounting value published in NSCI’s balance sheet. This gives a particularly conservative valuation to the three consolidated subsidiaries; ProAxsis, Glycotest, and EMV Capital. This is because the accounting value effectively applies no value to intellectual property, with research expenses being written off as incurred.
Market Capitalisation:
This is just the current market capitalisation of the NSCI shares.
'Fair value' gives a more realistic indication than book value, but still based on backwards-looking data points
Fair Value:
The company publishes ‘fair value’ estimates for its holdings that are based on the BVCA (British Venture Capital Association) methodology, which uses observable inputs such as the price from the last publicly disclosed third party funding round. Although this gives a more inclusive valuation than the book value, this is still effectively a backwards-looking metric.
Market Value:
This is our own estimate of the value of NSCI’s various assets. We use various methodologies that we describe in the text below the next chart.
The chart shows the current valuation under each of the four measures.
Market cap is currently between book value and published fair value
Comparison of different value measures
Source: Proactive Research
We arrive at market valuation estimates using various different methodologies applicable to the various segments of the portfolio. The methodologies are as follows:
Listed market value
PDS Biotechnology is a market listed company, and as such we use the latest market cap from published NASDAQ data.
Carried Interest
NSCI has carried interest participation in the advisory portfolio through EMVC. Carried interest is profit share that is realisable on exiting the investment, with EMVC typically taking 15-20% of any gains. We assume 17.5% profit share for our valuation.
We value carried interest at £2.7mln
It is difficult to evaluate the carried interest with accuracy. We apply a conservative approach to arrive at an approximation. The current capital under advisory portfolio stands at £18.2mln. We assume a 100% return on the portfolio, in net present value (NPV) terms, although we believe that EMVC is targeting higher returns than this. With a 17.5% share for NSCI, this equates to £3.2mln. We apply a 15% discount for execution risk to arrive at a valuation of £2.7mln for the carried interest.
DCF valuations
We apply a discounted cash flow (DCF) valuation methodology for the consolidated subsidiaries; ProAxsis, GlycoTest, and EMVC (excluding Carried Interest value). These valuations are based on our estimates for the revenue and profit potential of the current pipeline of activity for each business.
We apply a two-stage DCF model
We use a two-stage discounted cash flow (DCF). This is based on explicit forecasts for growth in revenue profit and cash flow out to a ‘maturity’ year (specified for each business), with growth in cash flow extrapolated at a continuous rate thereafter.
The following table summarises our assumptions for each of the three companies:
DCF assumptions
Source: Proactive Research
Other valuation methodologies:
Cash
We use our estimate of cash balances at Dec 2021, at £3.9mln, rather than the last reported figure of £7.7mln, to be consistent with our forward-looking methodology.
Book values
For the smaller holdings, we use book value, in absence of a better available approach.
Using the methodologies described above, our market-based valuation comes out as follows:
Our market-based valuation
Source: Proactive Research
Our valuation model indicates significant upside to the current share price
An equity valuation of £36.9mln equates to 176p per share or 52% upside to the current share price. We believe that further catalysts are likely to arrive in the next 12 months including corporate actions, possible investee funding rounds, and milestones in investee business activity. We believe these events could lead to some narrowing in the discount in the NSCI share price compared to our valuation.