Transformation evolving

At the start of July, Evolva announced that its CEO and co-founder, Neil Goldsmith, was stepping down with immediate effect and would be succeeded by Simon Waddington, the COO. The board and Neil Goldsmith had agreed that Evolva’s near-term focus needed to be on growing the market for Evolva’s existing products and strengthening margins, which did not fit Neil Goldsmith’s entrepreneurial skill set. Simon Waddington was previously CEO of Abunda until its acquisition by Evolva in 2011, when he joined the Evolva management team. The board felt that his background and experience are more suited to the next phase of Evolva’s growth, as EverSweet nears full-scale production and launch. Simon was in venture capital for over a decade, where he gained experience across a range of subsectors comprising: life-science, advanced materials, medical, agricultural, nutrition and healthcare services. Prior to that, he was product development manager for Zeneca’s biopolymers business, which pioneered fermentation-based production of biodegradable polymers from renewable feedstocks.

Over the last 18 months or so, there has been a significant amount of change on Evolva’s board, with a new CEO, CFO and chairman. This marks Evolva’s transition from a pharmaceutical-oriented biotech start-up to a product-based specialty ingredients business for health, wellness and nutrition.

The strategy and organisational review that was announced with the H117 results suggests Simon Waddington is committed to the transformation of Evolva towards a more focused, product-based company. He highlighted his belief in “focused execution”, which leads us to believe that Evolva will increasingly concentrate on the three products that are already on the market, namely stevia, resveratrol and nootkatone. In April, Evolva announced it had reached an agreement with Cargill with regard to its stevia collaboration. This is still on track for launch during 2018, and involves a retrofit of an existing Cargill facility in Blair, Nebraska. Resveratrol and nootkatone are both on the market. Nootkatone remains on track for US regulatory approval in pest control in H218 and Evolva is also continuing to grow the product’s customer base in flavour & fragrances. Resveratrol was branded Veri-te in February 2017, and Evolva’s commercial pipeline has expanded. The key application is in dietary supplements, with a focus on products for healthy ageing. We await the results of the strategic review (expected in Q3) to learn the fate of the other products in development, such as valencene and saffron.

The CEO believes that Evolva has a unique proposition with its fermentation platform, but it should remain focused on its strengths. As Evolva moves towards commercialisation of its products, the danger is that it could encounter lengthy (and expensive) production delays. The ingredients sector is full of examples of scale-up and production issues, which are extremely common problems. He also believes the best route may be to partner strategically with companies (such as Cargill) that already have the manufacturing assets, capabilities and expertise. The strategy and organisational review instigated by Simon Waddington is already underway and should provide further detail as to how this will be implemented.

Total H117 revenues of CHF3.6m were below our forecast of CHF6.0m and consensus of CHF5.8m, although the net loss of CHF20.3m was broadly in line with consensus of CHF18.6m. Given the guidance for FY17 product revenues to at least triple versus 2016, we have cut our sales assumptions for FY17 from CHF15.3m to CHF8.4m. We now forecast product sales of CHF3.0m vs CHF6.8m previously. We have also cut our forecast for R&D revenue, as the new CEO has suggested the focus is likely to move to product sales. We note guidance is now for H2 R&D revenues to be “slightly below” the H1 level. Given the cuts to our product sales forecast for FY17, we have also cut our forecasts for FY18 and FY19, by 48% and 42% respectively, as we assume slower uptake of the key products (stevia, resveratrol, nootkatone and also valencene), and lower R&D revenue as a result of the increased focus on products in the market, as indicated by management. We also cut our assumptions for R&D spend, given the greater focus on these key products.

In terms of cash flow, we have adjusted our forecasts to incorporate a cash outflow of CHF3.9m (split equally between 2017 and 2018) in relation to two contracts with the US Defense Threat Reduction Agency (DTRA) whereby Evolva may be responsible for some of the costs charged to the DTRA (a provision was taken in H117). We have also adjusted our cash flow to reflect our belief that the project to build a new Evolva facility in Blair, Nebraska, next to the retrofitted Cargill facility (detailed here) is no longer likely to go ahead. The final decision is expected in Q317 once the organisational and strategic review is complete. At this juncture we have not altered our peak sales assumptions for the key products, as we await the outcome of the strategic review.

We detail our valuation in Exhibit 1 and our updated fair value is CHF0.69/share (from CHF0.81). We have updated our forecasts following the H1 results as discussed above, and we have rolled forward our DCF to start in 2018. Rolling forward the DCF has acted to significantly mitigate the impact on the cut in near-term forecasts on our valuation. Also helping to reduce the impact of the forecast cuts has been the reduction in expected R&D expenditure. We have also trimmed our forecasts for partnership revenues from Evolva’s various alliances, in light of CEO Simon Waddington’s comments about “focused execution”, and hence the potential for these alliances to become less important as a result of the strategic review.

For Evolva, we use a 25-year DCF valuation with a fade. We slightly reduce the R&D and capex in year 6 to reflect our assumption that there will be no new products in the pipeline. In year 11 we reduce these much further as we assume the company will be running on the existing products, and cash flows will then cease. The different products have varying peak sales and ramp-up assumptions as detailed for each above. In 2031 (year 13) we start to fade stevia and vanillin, and from 2035 we start to fade the other products. We assume the stevia and vanillin patents are the first to expire. Stevia remains the key product, at c 45% of our valuation (after adjusting for tax and capex).

We note that we use our estimate for FY18 number of shares for the purpose of our DCF valuation (previously FY17). We forecast an increase in shares through to FY19 as the SEDA is exercised. As discussed in our note, the SEDA is fully flexible and hence will be exercised as necessary, rather than according to a pre-agreed schedule. We note that during H117, Evolva drew CHF3.2m from the SEDA facility, resulting in 7m shares delivered to Yorkville. At the current share price, the total commitment would represent dilution of c10%. We assume the SEDA is drawn down in annual tranches of CHF10m for the purposes of our model. In addition, we continue to assume the additional c CHF30m of financing that Evolva will look to secure for the Blair, Nebraska EverSweet retrofit, is debt-based. Evolva is looking into various funding scenarios.

We note that, according to our forecasts, the bulk of Evolva’s value is derived from the three products that are currently on the market: stevia, resveratrol and nootkatone. As discussed above, we have modified our forecasts to assume a slower uptake of the key products, but we have left peak sales assumptions unchanged. We have cut our forecast for R&D spend to reflect management’s comments regarding greater focus on products on the market.