Under the Base Case, Avacta has a Great Case.
Having now released their 2020 Annual Report and subsequent presentation, I wanted to get some of my own investment thoughts on what the next few years should now mean for the business. My approach remains deliberately conservative with a view to establishing a safe base case scenario.
Let's start off with what we know.
Right now "£47.9 million of cash and short-term deposits at 31 December 2020... will provide funding for the Group into 2023."
During that period the company intends to drive the following therapeutic based programmes,
"The Group is on schedule to select the next clinical development candidate by the end of 2021 from the pre|CISION™ prodrug pipeline."
"The Group has set the objective of selecting a bispecific clinical candidate from either the AVA027 or AVA028 programmes by the end of 2021 to be taken into pre-clinical development."
Additionally, we have the TMAC programme with milestones set as follows,
"These in vivo studies will continue through 2021 and are expected to support the selection of the first TMAC® drug candidate during 2022 for pre-clinical and clinical development."
Sandwiched between all of that is the AVA6000 programme, which according to Chief Development Officer Neil Bell is expected to deliver its first key set of results in Q4 2021.
To place the AVA6000 programme in some sort of context, here's a comparison table from Avacta's Affimer presentation dated February 2019. Having had their first product approved in December 2017, Ablynx was then acquired in early 2018 for £4.8BN. Therapeutics focused only.
The phase 1 AVA6000 trial doesn't deliver just a product to market. What it does is de-risk the methodology and approach of a whole platform, prior to opening up multiple further chemotherapy drugs for the same approach.
"If the AVA6000 study shows that the pre|CISION™ chemistry is effective in reducing systemic toxicity of Doxorubicin in humans, then it can be applied to a range of other established chemotherapies to improve their safety and efficacy."
Right now my expectation is that none of the further drug candidates stated above will enter the clinic before late 2022. I also expect that it will be the revenues from the sale of Covid related tests that will carry them into it and beyond. This is further reinforced by the fact that the next pre|CISION™ prodrug clinical candidate is due to be selected by the end of 2021.
Currently available funds prior to anything that Avacta's AffiDX® SARS-CoV-2 Antigen Lateral Flow Test will now bring are expected to deliver us to that point.
Covid Pipeline and Revenues
Right now I would park all potential revenues outside of the AffiDX® SARS-CoV-2 LFT. Employing them purely as a support for the below base case scenario.
As of today's report, the company is still adamant that it "expects demand to be present for rapid testing for at least two years and probably for longer."
Presently, the company is signalling that their UK manufacturers, a combination of Global Access Diagnostics, BBI Group and Abingdon Health + "access to the equipment supplied by HM Government", can supply up to 30m tests per month.
Omega Diagnostics are clearly in that HM Government boat but to a certain extent GAD too. That was made clear in the 8th February FT article "Three UK manufacturers selected to make rapid Covid tests," with GAD reportedly receiving £10m from UK Government. So said reference could be both or just GAD.
In discussing the above slide, Dr Smith had these keywords to say,
"GAD have already manufactured first commercial batches."
"Abingdon and BBI are now adopting those processes from GAD."
"There are other UK manufacturers that we certainly would hope to access as well as potential overseas capacity."
"Within the UK we expect to be able to access fairly shortly during the Summer around 5m tests per calendar month."
"I can't be accurate at the moment as to what the upper limit is because there is a lot of work going on through government investment and other sources to increase the UK capacity. But to give you some guidance I think that number could easily reach 30m tests from UK manufacturers this year but it does depend on a lot of things."
"We are very pleased with the demand that we are hearing about...So we are more concerned about product supply certainly than demand. So we are looking at overseas manufacturing capabilities as well as focusing primarily on the UK in order to meet that demand."
What's strongly indicated in the above statements is that Avacta will take all UK manufacturing they can get because of the demand that they are already aware of. This is in part why I have been so interested in Abingdon Health as a supplementary investment to Avacta.
Having had a chance to digest the presentation properly now, both sets of figures are clearly conservative in their nature. As Dr Smith went on to say, "I'm sorry it's a broad range but that's the best I can do without being misleading at the moment."
Even when I consider where the UK now is with Covid and that the market has moved on in terms of pricing for these tests (single tests now available for c. 5€ in Germany), I still see a scenario whereby Avacta are able to book £1 a test in gross profits for tests that they say can be sold in the "mid-single-digit GBP range."
It's important to appreciate that all development work associated with their AffiDX® SARS-CoV-2 was completed and paid for in 2020. Avacta's key role moving forward is Affimer production. Everything else is outsourced, be it that there are now several mouths to feed.
The question then becomes one of just how many tests can Avacta sell and to who? which in turn looks to be about how much production can they really secure?
My conservative expectations at the moment are for sales over the next 3 months (starting May), to be a build-up process to those 5m per month figures. So c. 5m all in. I would then expect c. 10m average sales per month for the next 15 months before a drop off then begins to be realised. Why? because it's very doable.
That would then place base case sales at c. 155m by c. late 2022.
Even under that conservative scenario, we are still talking c. £155m in gross profits over an 18 month period. Deliberately conservative in order to ensure achievability. That is ample firepower to drive the above therapeutic plans well beyond their initial proposals. It will also give the company significantly more options in terms of when and how they make deals with potential partners for any success achieved in the clinic.
Other Sales Opportunites
In reality, there are several potentially key developments that can take the above base case to the next level.
Alongside the comment on 'good progress being made with distributors and OEM partners in Europe,' Dr Smith had this to say,
"The past 6 months or so we have made really good progress with distributors, end-users, OEM partners and so forth. Obviously, they have been waiting to see the full clinical validation, which as we've seen is excellent."
"That has allowed us to move on with those discussions that we have in place, quite quickly now."
There is every reason to believe that a test that Avacta say "could be the most sensitive spike antigen test so far available," is going to be popular and can demand higher percentage returns for the company, from both a distribution and licensing perspective. It is also clear that much of the necessary groundwork has been laid and these deals will happen and can come to a quick conclusion.
However, it's worth noting that whilst the right OEMs can bring substantially increased sales, they will likely still require time to gear up.
Additionally, 'ongoing, but slow, dialogue with DHSC/PHE.'
Against this opportunity, the message was clear that UK sales opportunities lie with a UK government that is currently issuing tests free of charge with Dr Smith stating that,
"From a commercial perspective that doesn't leave any room for private industry to sell tests...so the Department of Health is the commercial route to market in the UK."
"We have got a very open and ongoing dialogue with the Department of Health and I will update you on that when I can."
Again, a high performing UK developed and manufactured test ticks all the right boxes for the UK Government. So it feels appropriate to include something for this opportunity. This is especially true when one considers that both Omega Diagnostics and GAD UK government paid for supply, is still sitting waiting for a test to be communicated to it.
Still, for me, for now, it is placed in the very nice to have box.
Lastly, we have the self-use test.
With this one, I am somewhat torn. In Germany, it is clear that right now extensive lay studies are not required to sell these tests direct to consumers.
In the UK we have a more stringent approach indicated by the introduction of a new private testing validation approach. However, with tests already being employed by parents on their own children, this CE mark for self-testing very much has the feel of being for a market that is coming down the line and not one that is absolutely necessary to include now. That said the process will run in parallel with plenty of time to see how the market develops with it this year.
Despite these clear additional opportunities I am still going to park it all in the nice to have box and stick with my 18 months base case outcome and the c. £155m that should come with it.
All of which carries us very nicely into late 2022. A time when Avacta should be close to enter the clinic with their next pre|CISION™ prodrug and will most likely have delivered at least one non-Covid diagnostic product.
Wider Diagnostics Opportunities
Now here's where I really start to get excited by all of this.
A key diagnostic update from the Annual Report RNS,
"A pipeline of non-COVID-related in-house diagnostic tests for a range of diseases and conditions being developed to be brought to market from 2022 onwards, adding to long-term COVID-19 testing revenues."
This for me is a very significant development because it confirms that recurring revenue stream that I was discussing on my Twitter feed, back in September 2020.
I fully appreciate that right now Avacta's AffiDX® SARS-CoV-2 Antigen Lateral Flow Test will take centre stage and so it should. However, it won't be around forever and for the valuation to find lasting security other revenue streams must be delivered. NCYT is living proof of that.
As excited as I am about AVA6000, it remains an if and not a when.
In the case of the new expanded diagnostics division, it is much more about when rather than that more uncomfortable if. Don't get me wrong I am as confident as I can be with Avacta's Affimers but as an investor wishing to minimise my risk, under a therapeutics scenario they currently guarantee me nothing.
From yesterday's announcement,
"since the lateral flow test is now in clinical evaluation the Group is in a position to begin to refocus its research and development resources onto non-COVID diagnostic tests, which include assays for D-dimer, cortisol, vitamins D and B12 and C-reactive protein, a test with regard to liver function."
In addition, the company was keen to highlight this about the ISO 13485 certification,
"this certification sets the organisational and operational framework for all current and future diagnostic product developments and it is an essential accreditation that underpins future commercial success."
To this, we must add the recently appointed product manager, a Head of Product Development and Operations Director and New CAT 2 laboratory facilities in Wetherby.
All equipment installed in said CAT 2 labs has been validated to satisfy the requirements of ISO13485 and "the new facilities can house about 20 staff and all scientific staff are now able to work full time in the laboratories."
So all set up and ready to go to deliver the most promising non-Covid diagnostics products, starting in 2022. Meaning that Avacta is effectively setting itself up to replace any fall in Covid revenues streams.
= recurring revenue streams.
Here's now are a couple of old favourite slides of mine. Taken from the 6th May 2020 presentation (remember that?), it contains the potentially available markets for the likes of D-Dimer and B12, both highlighted once again in today's announcement. The numbers aren't small with D-Dimer running at c. $2BN addressable market per annum and B12 c. $220m but with room to increase should Avacta deliver better-performing tests.
Both of these tests were already fairly advanced even in H1 2020 but they didn't have the supporting infrastructure to take them further without committed and attentive external partners.
The new-look Avacta diagnostics division now certainly can and doesn't need anybody else to achieve it.
A combination of a front running successful Covid test roll-out coupled with this pending pipeline of further non-Covid related diagnostic tests, which are substantial both in variety but also in market size, potentially delivers a big enough value story all on its own. All without the risk of the if that AVA6000 and its brethren still bring.
What that does is make AVA6000 and the wider therapeutics opportunity a complete bonus and that's exactly the sort of investment set up that I would want to be a part of.
If success does indeed come in on that front, it opens up a significant wider therapeutics opportunity that can be backed with the very recurring revenue streams that make it worth being here for in the first place.
All of which of course ignores the impact that a market-leading Covid test can have on the business and the demand for their Affimers.
All of which of course ignores the impact that a safe and tolerable AVA6000 can have on the ongoing partnered programmes and the therapeutic division as a whole.
A secure 18-month revenue stream from their leading Covid test brings all of those partnered programmes that much further down the line. Any of which have the ability to deliver significant milestone payments at any point.
However, the same rule applies. Avacta doesn't need to succeed in any of these programmes, so long as the diagnostic division continues to deliver. That's the base case, which means that said partnered programmes can also all be placed in that extremely nice to have box.
What a position Avacta and their shareholders now find themselves in.
A deliberately conservative revenue stream from their leading lateral flow test can deliver Avacta multiple clinical programmes in their therapeutics division, under the guidance of Neil Bell, a man who was brought on board for just that reason.
An expanded diagnostics division delivered by the opportunity presented by the Covid pandemic, allows Avacta to expand directly into significant non-Covid based markets. That, in turn, removes their reliance on third parties.
In time, significant further value can potentially be added at these sorts of levels without the need to be successful in the clinic.
Serious additional opportunities can be delivered through OEM, distribution and end-user deals for their AffiDX® SARS-CoV-2, but can be treated as a complete bonus given what the diagnostics division can now go onto achieve.
The entire lateral flow test journey has already given the Avacta team significant experience (likely through its failings more than anything else) and brought them a full value chain of partners. Those established partnerships can now assist them with their future tests, in a future that is clearly heading towards a direct to consumer market place. That too being delivered by Covid and the focus that it has brought on the diagnostics industry.
Lastly, their high-performance test now places them very much in the shop window in terms of future deals but also as an attractive acquisition in their own right.
I appreciate that I could be well short of the sort of revenue capabilities this now proven Covid test can bring to Avacta. However, at such elevated valuation levels, I believe it sensible to be conservative.
The above exercise gives me the confidence to remain with my long term investment plan for Avacta. Volatility may well remain as factors around the full roll-out of this test are ironed out. However, as things currently stand with Covid, the longer-term outlook looks solid for Avacta with multiple major inflexion points possible along the way.
Note - This article represents the opinion and research of the author only and the author currently holds a position in one or more of the stocks mentioned. Nothing shared in this article is to be deemed financial advice. Where possible all facts have been checked and references provided, however, it is the responsibility of the reader to check all details for themselves before making any financial decisions. Please also refer to the disclaimer policy