NetScientific is positioning itself for pay-off
NetScientific PLC (AIM:NSCI) (LON: NSCI) has assembled an exciting portfolio of emerging life science, healthcare and technology businesses. The company has evolved markedly following the acquisition of EMV Capital in August 2020, which has enabled it to shift the business model to a more capital-light approach, with proactive management, bringing in outside investors, and taking a fee from successful transactions. Despite the very promising investment opportunities, the stock continues to trade at a significant discount to our valuation metrics.
Attractive valuation
We calculate an indicative sum-of-the0parts valuation of £36.5mln or 173p per share - more than double the current share price. This number is derived from the portfolio fair value, adjusted for the balance sheet items, along with estimated valuation uplifts from selective portfolio companies. We note the diverse portfolio of early-stage growth businesses offers significant growth opportunities. In particular, we note the opportunities to create value in the core direct holdings of Q-bot, Vortex and ProAxsis.
Fiscal year 2021 (FY21) annual results
The group had an extremely active 2021, which included a £7.7mln fund-raising, expanding the portfolio by five companies to 22, and strengthening the group's investments in existing companies. The unaudited directors estimated valuation of direct holdings jumped by 46% or £9.8mln to £31.0mln, partly reflecting the gain in PDS Biotechnology Corp (NASDAQ: PDSB) in which the group holds a 4.7% stake. Total assets as recorded on the group balance sheet jumped by 157% to £20.7mln. Meanwhile, the fair value of capital under advisory increased by 51% or £7.5mln to £22.1mln, which reflected the active syndication programme through EMV Capital.
NetScientific has seen the practical completion of the planned turnaround that was implemented by the new management team, following a strategic review in 2020. The focus now is on applying processes and the platform successfully to drive growth.
Group revenues grew by 181% to £1.1mln, which reflected a strong performance from EMV Capital; however, the pre-tax loss increased by 23% to £2.9mln (which includes R&D expenditure). The group finished the year with £2.7mln in cash or £2.1mln in net cash after deducting debt/lease liabilities.
Building an attractive range of early stage growth businesses
We note that the business model is heavily transaction-driven, hence revenues, profits and cash flow can be volatile. Noting this, we forecast group revenue to more than double in the current year to £2.3mln, driven by EMV Capital and ProAxsis, then rise by 70% in FY23 to £3.9mln as Glycotest revenue begins to flow and 46% in FY24 to £5.7mln. We forecast declining losses in FY22 and FY23, with the group to swing into profitability in FY24. While we forecast the net cash position to bottom in FY23, this is also subject to transaction activity.
NetScientific (NSCI) is an active holding company. It invests in companies in the life sciences/healthcare, 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 fundraising support. NSCI’s strategy is to target value inflexion points in the investee company’s life cycle, working to help the company make the transition through these points, and ultimately realise value through a full or partial exit. One key component in the strategy is a “transatlantic bridges” programme, leveraging transatlantic relationships to help small companies in North America or Europe expand their businesses across the Atlantic Ocean and globally.
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 (typically 15-20% above a 110% hurdle).
The group has a portfolio of interests in 22 companies based in the US, UK, Europe and Israel and represented in the following schematic:
Company description and strategy
NetScientific reported FY21 group revenues of £1.1mln, up 181% on the year, which represents the revenue performance of the group's (four) subsidiary businesses. EMV Capital (100%-owned) and ProAxsis (100%-owned) are revenue-generating businesses while Glycotest (65%-owned) is not currently generating revenues and Cetromed (75% owned) is a non-revenue generating holding company. The revenue growth reflected the strong performance from EMV Capital, which nearly trebled revenues, while ProAxsis recorded a small revenue decline. The pre-tax loss increased by 23% to £2.9mln, after including R&D costs, and the group finished the year with £2.7mln in cash — £2.1mln in net cash after deducting the small amount of debt and lease liabilities.
The unaudited directors estimated valuation of direct holdings jumped by 46% or £9.8mln to £31.0mln, partly reflecting the gain in PDS Biotechnology Corp (NASDAQ: PDSB), a Nasdaq-listed company in which the group holds a 4.7% stake. Total assets as recorded on the group balance sheet jumped by 157% to £20.7mln. The difference between the balance sheet and the estimated valuation is due to subsidiaries, which are accounted for in the balance sheet under standard IFRS accounting methodologies, while presented on the estimated valuation table at fair value, with the valuation referenced to recent transaction pricing. The primary difference is Glycotest, which is valued at £11mln according to the estimated valuation. Minority holdings appear in both the balance sheet and directors' estimated valuation at £13.0mln.
Meanwhile, the fair value of capital under advisory increased by 51% or £7.5mln to £22.1mln, which reflected the active syndication programme through EMV Capital.
FY21 results
The group had an extremely active 2021, which included a £7.7mln fund-raising, expanding the portfolio by five companies to 22, and strengthening the group's investments in existing companies.
The acquisition of 75% of Cetromed in December 2021, added interests in three spin-outs from the University of Leuven, Belgium, and establishes a relationship with this university. This deal was achieved at a price of just about £192k in NetScientific shares and warrants. The three businesses are as follows:
• Fox Biosystems (5.15%): Real-time, label-free analysis technology using surface plasmon resonance biosensor. This is a commercial-stage business.
• DNameIT (61.5%): 'Biological barcode's for quality assurance of Laboratories — targeted at high-growth next-generation sequencing space. This is pre-revenue.
• Oncocidia (41%): Targeted radiopharmaceutical cancer treatment. This is pre-clinical.
The other new company in the group is Martlet Capital, a Cambridge-based venture capital business which is focused on deep tech and life sciences. EMV Capital advised, structured and co-led the first close of a £12.0mln investment into Martlet Capital, alongside leading private office Saranac Partners, which enabled the acquisition of a portfolio of over 50 minority investments of Marshall of Cambridge Limited and the continuation of its investment programme as a leading Cambridge high-tech cluster early-stage investor. EMV Capital syndicated £1.4mln to its network of private investors and retained a £250k direct stake including a 1.5% equity interest. Martlet Capital has an established Deeptech portfolio and has an opportunity for further selective investments. The group has the option to do follow-on investments opportunities from Martlet Capital.
Investment activity
Direct investments made during 2021
Source: NetScientific annual report
While we have generated P&L forecasts for NetScientific, we note that earnings forecasts are somewhat academic for a business of this type, given the lumpiness of earnings (as it is heavily transaction-driven) and the focus on asset valuations. Management's focus is on generating outsize returns through exits and liquidity events, and these are difficult to predict.
Group revenue is generated from subsidiaries EMV Capital, ProAxsis and Glycotest, with the latter not expected to contribute until FY23. We forecast EMV Capital revenues to rise sharply on the back of the increased activity. These numbers could be beaten if there are significant transactions. We forecast ProAxsis revenues to rise sharply with its broadening product range and new markets. We forecast Glycotest revenues to begin in FY23. In all, we forecast group revenue to more than double in the current year to £2.3mln, driven by EMV Capital and ProAxsis, then rise by 70% in FY23 to £3.9mln as Glycotest revenue begins to flow and 46% in FY24 to £5.7mln.
Forecasts
Revenues
Source: Company accounts (historicals) and Proactive Research (forecasts)
We forecast gross margins of 85% going forward. Other operating income represents grants, and we have assumed this will rise slightly going forward. We forecast administrative expenses to grow by 2% in the current year (which follows the 20% gain in FY21), then rise by 5% in FY23 and FY24. Consequently, we forecast a £2.0mln pre-tax loss in the current year, which declines to a £0,9mln loss in FY23, and swings to a £0.5mln profit in FY24. We assume research & development (R&D) tax credits rise gently and non-controlling interests turn positive in FY24. This results in earnings per share of 2.3p in FY24.
Income statement
Source: Company accounts (historicals) and Proactive Research (forecasts)
Valuation
The aggregated value of the owned portfolio was £31.0mln at the end of December (see Portfolio summary table at bottom of note) equates to 147p per share (21.1mln shares). In addition, the group had cash of £2.7mln as at December 31, along with a small amount of debt and finance leases, leaving a net cash position of £2.1mln; however, on our forecasts, this will flip to a peak £1.4mln net debt position in FY23. Adjusting for this £1.4mln reduces the book value to £29.6mln which equates to 140p per share. Updating the portfolio with the latest PDS Biotech valuation, which has fallen by £4.5mln to £3.5mln, takes the adjusted book value to £25.1mln, or 119p per share, which is 51% above the current NetScientific share price.
However, we note that some of the group's businesses have the potential to worth significantly more than the directors' valuation. We suggest the following £11.5m of uplifts, which would take the adjusted sum of the parts valuation to 173p per share, which is more than double the current share price.
Indicative valuation uplifts:
- EMV Capital valuation is unchanged since it was acquired in August 2020; however, the increased activity in the advisory activities and capital under advisory, which are carried out through EMV Capital, suggests potentially significant upside in the valuation of this venture capital business.
- NetScientific's new direct holding in robotics specialist Q-bot has further potential for value increase. Q-bot has recently carried out a funding round that values NetScientific's 20.6% direct stake (which includes convertible loan note conversions) at £2.77mln, a gain of approximately £1.45mln over less than one year and with additional upside potential.
- ProAxsis. For technical reasons, this on only on the books at £3.5mln. However, the business has seen the launch of four new products and has a business relationship with AstraZeneca, the pharmaceutical giant. Hence, we believe this business is worth significantly more.
- Vortex. A 30% direct stake has been acquired since the balance date at what we believe is potentially a bargain valuation. The Vortex business has been restructured, and we note that around $38.5mln has been invested in the business. The management knows this business very well, and we believe the group's 30% stake could potentially be worth £15-20mln at exit. We note that Vortex has a similar offering to AIM-listed company Angle PLC (Angling Direct PLC (AIM:ANG)), which has a market capitalisation of around £247mln and revenues of £1mln.
- Glycotest's valuation was set four years ago. We are forecasting its revenues to grow sharply from next year, on the assumption that its Hepatocellular Carcinoma (HCC) panel test will be successful. Hence, we believe the existing valuation is fair.
Indicative valuation
Source: Proactive Research
In addition, we note the following.
- Management's hands-on investment approach can generate significant value on an ongoing basis from nurturing businesses, the “transatlantic bridges” programme and helping them raise finance or restructure.
- The group has broadened and deepened its investments over the last year, roughly doubling the companies invested into 22, improving the benefits from diversification and reducing the reliance on the Glycotest and PDS Biotechnology investments.
- The group has relationships with universities, and the tech clusters around Cambridge UK and Leuven, Belgium, could generate significant additional growth in the business via the group's VC business EMV Capital and to a lesser extent Martlet Capital.
- PDS Biotechnology shares have been hit by the biotech sector rout over the last year or so. However, we note that PDS has ongoing trials with leading names in the pharmaceutical industry. Its key product, PDS0101 has this week attained fast track designation by the US Food and Drug Administration (FDA) in combination with Merck's anti-PD-1 therapy, Keytruda (pembrolizumab), for the treatment of recurrent or metastatic HPV16-positive head and neck cancer. We note that Merck's Keytruda generated revenue of $17.2bn in the year ending in December 2021 and $4.8bn in the first quarter of this year, which indicates that this opportunity is huge for PDS. Large pharmaceutical companies often acquire biotechs such as PDS as a way of expanding their product portfolios and ultimately an alternative to organic investment. With brokers price targets averaging around $20 for PDS, we believe that any prospective takeover would need to be at a significant premium.
- The group has tax losses available to carry forward against future trading profits from continuing operations of approximately £18.2mln.
Portfolio summary
Source: NetScientific results presentation
Advised - managed on behalf of third party interests. CLN - convertible loan note. Wrts - warrants.