Global Bioenergies — Update 29 June 2016

Global Bioenergies has developed a process whereby it produces olefins through bacterial fermentation. It has identified enzymes and through metabolic engineering created an artificial pathway that it has introduced into microorganisms. Olefins are key building blocks for a range of chemical and liquid fuel applications, notably plastics, rubbers, paints and transportation fuels. Each of these applications has a wide variety of end markets, making for a potential market opportunity for GBE that could exceed US$300bn (source: ICIS). The company pursues a sequential molecules strategy: isobutene is its most advanced process. Butadiene and polypropylene are follow-on molecules that are about two and three years, respectively, behind isobutene in their development. GBE is looking to eventually license out its technology and build a joint venture and royalties-based business. The company has delivered an impressive string of achievements on technology and scaling up over the past 12 months and is now on the verge of commercialisation. It has created a first joint venture, which is expected to start production in late 2018/early 2019. It will come to the end of its initial subsidies funding at the end of 2016. It has obtained continuation of funding with the most recent €9m extension. Now, it is facing a crucial step to reach the revenue stage.

We value GBE on a DCF methodology with risk-weighted cash flows in order to reflect the early stage of the business and the high degree of uncertainty that is attached to future cash flows. Our core valuation range is €37-56 per share (from €32-59). Our DCF model suggests that the current share price implies a 6% chance of success on the basis of a 15% WACC. We note that there is a strong correlation between the share price and the oil price because of the fact that the company’s process is an alternative to hydrocarbons. The correlation may prevail and overshadow de-risking of cash flows as the company progresses towards commercialisation. In reality though, GBE benefits from a range of attractive market opportunities that are not related to oil prices and it is actively developing them.

GBE is currently funded by equity, grants and R&D agreements. It is in the final phase of scaling up before commercialisation. As a result, we see a pattern of a growing cost base leading to ongoing losses until the first commercial revenues come in. We forecast the first licensing revenues in 2018 and expect the company to become profitable from 2019. With an end 2015 cash base of €10.4m, we estimate it will be funded into 2017, but it has recently secured follow-on subsidies. The company successfully raised €6.5m of equity in January 2016 despite difficult market conditions.

Technology risk and commercial execution are the most important sensitivities initially, along with protection of intellectual property. There is a very important commodities sensitivity, as evidenced by the share price performance, in relation to the oil price. As an alternative for hydrocarbons-based isobutene production processes, GBE’s process may have to cope with issues of relative competitiveness at lower oil prices. We note efforts by the company to diversify feed stocks, move into higher value-added end markets and improve process and product efficiency on an ongoing basis, all of which helps to mitigate an albeit undeniable exposure to the oil price. The most important sensitivity of the process, once operational, is the spread between isobutene and sugar prices, as sugar is an important cost item, which is currently favourable. The company’s efforts concerning diversifying into second- and third-generation feedstocks are helpful in this regard.

Global Bioenergies has developed a process that produces olefins through bacterial fermentation. Its most important product is isobutene. It is looking to grow through joint ventures and already has one such joint venture set up. The company is also developing follow-on processes.

GBE has a microbiological process through which it produces olefins by means of bacterial fermentation. Through microbiological biological engineering, it has identified enzymes for catalytic reactions, included them into microorganisms and created an artificial metabolic pathway. This was followed by a stage of optimisation through metabolic engineering. The company is now at a stage where it produces high purity gaseous isobutene without toxicity or contamination as its first molecule, on an industrial scale. It has also achieved successful production of liquid isobutene. The company pursues a sequential strategy whereby it develops follow-on molecules through modifications of its initial process. This allows for stabilisation of the initial process, learning effects, speedy development of additional structurally similar processes, and synergies. The next molecules are butadiene and polypropylene. The company has achieved first production of butadiene through direct fermentation and obtained early batches of polypropylene in 2015.

The global olefins market is worth c US$300bn pa and growing (source: ICIS). Olefins are key building blocks for a range of chemical and liquid fuel applications, notably plastics, rubbers, paints and transportation fuels. Each of these applications has a wide variety of end markets, making for a very large potential market opportunity for GBE. Additionally, there are further potential markets from biofuels applications.

The company has successfully ramped up pilot production of isobutene at industrial scale. Its industrial demo plant at Pomacle-Bazancourt has a capacity of 10kt of isobutene pa with a 500l fermenter and has been operating in a stable fashion since 2015. GBE is currently building its second demo plant in Leuna, Germany. The company has taken delivery of the fermenter and is now in the construction phase. This is an important next step as the capacity is much larger, at 100kt pa. It is expected to deliver proof of stability at large scale, and will take the company to a level that is realistic for future joint venture operations.

As GBE produces an alternative to hydrocarbons-based processes, the share price has shown a very strong correlation to the oil price. Clearly, very low oil prices make alternative olefins production unattractive from a relative cost point of view. However, one driver of the low oil price, increased supply from shale oil and gas, is a positive for the company. Substitution of conventional with shale crack has led to a relative oversupply of ethylene and an undersupply of isobutene. Isobutene is produced in greater quantities from conventional hydrocarbons cracking. Meanwhile, we note the recent oil price recovery. If it continues, it should support the share price.

Marc Delcourt, CEO, and Philippe Marlière, the co-founders of GBE, are scientists and specialists in enzyme engineering and synthetic biology. Both have previous experience of start-up companies in the focus area of Global Bioenergies. Mr Delcourt was the founder of Biomethodes, which is still active today. GBE also has a large and high-profile scientific advisory board made up of scientists from academia and industry. The chief technology officer was previously chief scientific officer at Cellectis, and two of the three VPs of chemical and metabolic engineering have a track record from DuPont. Further, there is a supervisory board and a strategy committee. The CFO, François-Henri Reynaud-Sahakian, has a scientific and finance background. He has fund-raising and corporate finance experience and was a CFO with a medical devices company before joining Global Bioenergies in 2014.

Management continuity is an important consideration. GBE existentially depends on its scientific management, particularly the founders and the CTOs.

Global Bioenergies was founded in 2008 by two scientists and entrepreneurs. During its initial research lab stage, it developed a process whereby it produces olefins through bacterial fermentation. Through genetic engineering, it has developed an artificial metabolic pathway, which it has introduced into microorganisms. After optimisation of enzymes through metabolic engineering, it has achieved production of gaseous high purity isobutene without toxicity. This is a first of a kind and unique process. Isobutene has never been produced through a biological process before. The isobutene process is now stable at pilot scale production. It has been adapted so that the range of suitable feedstocks has been widened and first end applications of a wide product tree, eg liquid fuels, have been produced. For isobutene itself, we see further development ahead to prove applications for more end products and/or possibly adapt the process for various feed stocks or production optimisations.

Isobutene is the pathway for broader olefins development. It is the company’s most advanced process and lead for the development of a string of molecules. Adaptation of the process will lead to further follow-on processes. The most advanced of these are butadiene and polypropylene, which are around two and three years, respectively, behind isobutene in their development. This sequential strategy allows for learning effects, synergies and quick development of a range of molecules on the back of the initial engineering. We expect that progress on the follow-up molecules will come through relatively quickly, now that isobutene is very far advanced and first successes have been achieved with the others.

Global Bioenergies is in the final stages of scaling up and on the verge of commercialisation. Since our last update note, the company has taken significant steps to bring it from a research company to industrialisation and towards commercial development. It has widened its feedstock sources significantly through adaptation of the isobutene process. Sucrose-based feedstocks as well as second-generation, ie non biomass and waste-based feedstocks, have successfully been used in lab tests. This increases the attractiveness of the process as well as its resilience against potential future volatility of commodities prices. It also means a wider range of potential applications. The company has further delivered the first batches of liquid isooctane, ie transportation fuel, to its partner Audi. It is currently undergoing testing to determine its suitability for bottled gas for commercial sales. The company has begun construction of its second demo plant in Leuna, Germany. Lastly, it has delivered a very important first step towards commercialisation: it has set up a first joint venture, IBN-One, in partnership with Cristal Union.

GBE is now in the final phases of scaling its production to industrial size with the Leuna plant. Clearly, the step up from the Pomacle facility to Leuna will be very significant and still bears risk. But this is the last industrial hurdle and success so far at Pomacle is promising. The next step up from there will be construction of the production facilities for IBN-One, which means full-scale commercial operations. We expect that the company will increase efforts of commercial development at the same time as delivering this last important industrial milestone. The first joint venture will be an important test on execution of the JV and licensing strategy. The fact that the company already has a JV in place greatly enhances business development credibility for further joint ventures. Management has identified the development of more commercial opportunities as one of its next strategic and operational priorities. Meanwhile, the new ADEME funding (see Financials) is validation of progress on scaling up. We note that L’Oréal has said it might become a client of IBN-One, which again illustrates how GBE is opening new, oil-independent opportunities. As a blue-chip name, L’Oréal also supports commercial credibility.

The global olefins market is vast. Its estimated value amounts to US$300bn, of which c US$30bn is represented by isobutene. Olefins are the key building blocks for many applications in chemicals and liquid fuels, namely plastics, rubbers, paints and transportation fuels. The product tree structures are vast and the company therefore targets a very large potential market opportunity.

Growth from the automotive and pharmaceuticals industries, as well as from the air transport industry, remains strong and long-term demand drivers intact. Additionally, there is further opportunity from biofuels. The growth outlook for end markets remains unabatedly strong. We caution nevertheless that a slowdown in China could have an impact on global demand as Chinese demand growth is a very important component of the overall market. Even though the underlying growth drivers of the big end markets are intact, the demise of the oil price has important implications for alternative non-hydrocarbons based production processes, such as that of Global Bioenergies. To be competitive with traditional hydrocarbons-based olefins production, oil prices will need to return to higher levels. According to the company, a level of c US$90/bbl is required to open the full global market opportunity to the company’s process.

However, over the short term, there are many speciality markets and applications that allow the company to initiate commercial development and launch profitable joint ventures. The agricultural sector (where the company signed its first deal, with Cristal Union) represents a natural first growth area where there is no correlation to oil prices. There are other sectors that are likely to be open for business for GBE irrespective of oil prices, namely speciality chemicals, cosmetics or sectors where sustainability requirements are rising. Biofuels are an example of that. The structural shortage of naphtha cracking capacity in the industry is also supportive of isobutene prices.

Over the long term though, the oil price will undoubtedly be very important for the company’s business development prospects. It is worth noting that one of the contributors to low oil prices, shale oil and gas, is beneficial for alternative isobutene. The surge in shale product has reduced the availability of isobutene as isobutene, butadiene and propylene account for a relatively lower proportion of shale crack than conventional petroleum crack. Furthermore, the profitability of a GBE isobutene production plant is dependent on the oil vs sugar price spread. It is currently very favourable for the process as a result of low sugar prices. The company’s efforts of further feed stock development are also helpful to support long-term profitability of fabs under varying commodities scenarios. This will support resilience with regards to the isobutene/sugar spread.

As a micro-bacterial process, GBE’s technology is based on highly sensitive organisms. It needs to be delivered in a stable manner and technology risk is very important for GBE and for its future licensing partners. The company has successfully overcome the initial hurdles of scaling up and delivered proof with the successful production at the Pomacle plant. Even though, arguably, the biggest step in scaling up has been delivered with the scale from the lab to pilot stage, it is still exposed to technology risk as the next step of industrialisation implies an increase in quantities of production. These need to be delivered consistently and process stability needs to be ensured. Successful production at the Leuna plant will be a condition for the company to progress to the next steps of its first joint venture. It will be crucial for further commercial development. For subsequent molecules, the company will benefit from the learning effects from isobutene. Also, there will be complete gas purification, which is helpful. But each microorganism is unique, and as such there will be very specific technology and execution risk for future processes too.

As GBE enters the next important stage in its development, its commercial execution capability will become paramount. It will need to prove that it can deliver a continuous flow of licensing deals. The first JV is encouraging, yet the structure of the first joint venture illustrates that there are several stages at which partners could decide not to pursue the venture. A big challenge still lies ahead. This does not only concern signing deals but also the timing of such deals. Importantly, delays in licensing could jeopardise the financial outlook, particularly in the early years of the licensing stage.

Commodity risk is important. The direct commodity exposure is the spread between isobutene and sugar prices, as sugar is the main cost component. The prices of both commodities can be volatile. Significant changes in either can alter the spread to such a degree that it can materially alter the profitability of isobutene production facilities under GBE’s process. That in turn could have far-reaching consequences on the company’s short- or long-term ability to secure new licensing deals. It could also mean that with reduced profitability of existing fabs in the later stages, the company’s royalty stream could be reduced. Besides the direct commodity exposure, ie isobutene and sugar, there is indirect correlation with the oil price as the company’s process aims to substitute the oil-based processes that are currently in use.

There are end markets that are characterised by defensive and structural growth (eg pharmaceuticals). Others, such as certain segments within the speciality chemicals and automotive sectors, are cyclical by nature. That introduces some cyclical and macro sensitivity. Besides macro risk, policies and regulation are further sensitivities. Biofuels are particularly affected because GBE targets the market for isobutene. Changes in support for alternative energies or industrial processes could affect the company’s ability to access these markets. The fact that in most cases there are no or few direct subsidies involved is comforting as is the company’s wide diversification of end markets.

As a research, technology and licensing based business, there is a particular sensitivity to IP protection and enforcement. The company is active in patent filing. It will need to ensure it continually files for new patents on the back of product or process adaptations to maintain a competitive advantage. Once it is in active licensing mode, patent and licence restriction enforcement will also be a challenge. GBE targets very specific end applications and has the option to hand out specific licences for products, market segments or geographies. The fact that the product is traceable helps.

GBE is an early-stage, pre-commercial business. The timing and size of cash flows are highly uncertain, principally because the speed at which GBE will be able to generate licensing deals is currently unclear. Also the structures of such deals and net cash flows from licensing will depend on a variety of parameters (fab sizes, effective achieved royalty rate, achieved production of fabs, etc). As such, we find a DCF methodology with risk-weighted cash flows an appropriate approach.

Our valuation is based on isobutene as it is the most advanced process and the basis of our cash flow forecast. We include a range of WACCs from 10% to 30% (vs our base case of 15%) and cash flow probability weights for our cash flow forecasts as shown below from 5% to 100%. To derive our base case valuation range (€37-56/share), we use a flat 10-15% cash flow risk adjustment, which we believe is reasonable at this stage of the company’s development. Our key assumptions are as follows:

We believe that the market attributes a very low chance of the company succeeding in building up a successful licensing business. The performance of the share price since the strong oil price decline suggests that the market is attributing an ever-lower chance of success due to the depressed oil price environment. At a WACC of 15%, our model suggests that the current share price implies just a 6% chance of success. We think the company’s efforts to diversify into sectors that provide opportunity irrespective of the oil price fluctuations should help to de-risk cash flow and thereby increase the probability of success that investors attribute to the business. Below we show our valuation estimates for a range of WACCs and probabilities of success. Based on an asset-light licensing model, as currently targeted by the company, our core valuation range is €37-56/share (from €32-59 previously) as we have rolled forward our valuation by one year, adjusted our final cash flow growth rate accordingly and refined our model for our latest views on revenue structures. The upper end of our valuation range has decreased due to the impact of pushing higher cash flows out to later years and cash flow growth being heavily discounted because of the risk weights. At this early stage, we feel this is a fair reflection of potential value. We discuss our key valuation assumptions in the financial section below (see page 9).

In terms of sensitivities, each 100bp change to our assumed royalty rate changes our DCF value range by €4.2 (low end) to €6.3 (high end) per share. In turn, each €100/t change in our assumed isobutene price affects our valuation by €1.3-2.0/share. Each 10kt of capacity of future fabs alters our valuation by €2.1-3.2/share.

The company has delivered great progress on technology. There is still technology risk, but we think emphasis will begin to shift from technology to execution and commercial risk. For cash flows to de-risk, GBE will need to prove the final step of technology scaling and provide evidence of commercial success.

As GBE pursues a unique process, there are very few directly comparable companies. In particular, their technologies and end-markets differ and they are at different stages in their development as well as their size. This especially applies to BASF and Linde, mature large-cap companies. Nevertheless, we have attempted a selection of peers. We find the alternative fuels, bioenergy and biochemistry sectors to be most closely related. The table below shows the ratings of what we see as relevant peers.

GBE is funded via the French government’s ADEME programme as well as BioMa+ and German government subsidies. It is still at pre-revenue stage, but on the verge of producing commercial earnings. The company’s financial performance is currently characterised by a step up in scaling and industrialisation. That entails a quickly growing cost base. At the same time, revenues are still limited to grants and subsidies. The company has reported 2015 results in line with our expectations. Revenues were €2.2m, mostly stemming from subsidies and grants. Because of timing issues, some parts of the subsidy payments that related to 2015 will only be received in 2016. Expenses rose as the process of scaling up and industrialisation continued. Furthermore, as a result of higher debt stemming from new bank loans (see below), net interest expenses increased to €260k. As a consequence, the company has reported a net loss of €10.3m (adjusted), up 36%
y-o-y.

For 2016, the pattern of revenues arising from grants, subsidies and R&D agreements, combined with a growing cost base as a result of industrialisation, will continue. Nevertheless, we see a first decrease in losses, to a net loss of €9.2m due to a first revenue contribution from Cristal Union. We assume revenues from R&D agreements up to and including 2017. From 2016, we have factored in first upfront payments, but no licence revenues yet. At the same time, we expect expansion spend to reach its peak. Consequently, our forecast loss begins to decline.

Our financial forecasts and valuation are based on the following key assumptions:

We estimate the company will become profitable once it receives the first material licensing revenues, ie in 2019. While we expect it to receive first commercial royalty revenues from Cristal Union in 2018, that is not sufficient for profitability yet as it is not a full sized plant. According to our estimates, it will take a second JV to turn the company to profitability. From there on, the business model allows for significant growth in revenues without a corresponding increase in costs. We see long-term EBITDA margins in excess of 80% as possible and a high return on capital business as the bulk of capex will be borne by licensing partners.

The company is funded by the French government ADEME programme through to end 2016. The two demo plants are funded one-third through non-reimbursable grants and one-third via reimbursable support finance. From this programme and BioMa+ and German government subsidies, it still has €5.3m to receive. In 2015, it obtained €4.4m of bank loan financing, principally for the build-up of the Leuna plant. The company closed 2015 with cash of €10.4m. In January 2016, it raised €6.5m through a private placement. GBE has recently secured follow-on ADEME funding of €9m of repayable advances, staggered over the next 44 months. Of this, GBE can obtain up to €5.7m and IBN-One up to €3.3m.

As a result of the company being EBIT negative until 2018 according to our estimates, we forecast negative net cash flows over that horizon. 2019 is the first year of positive net cash flows. With that, and based on the 2015 cash position, we estimate that GBE is funded through to 2017. However, we believe it might need to contemplate financing options from 2017, given that the first payment of the new ADEME grant will amount to a maximum of 15%.