Allied Minds — NAV upside with additional ‘option’ value

As with FY18, the group’s results were dominated by the impact of the deconsolidation of subsidiaries (ALM’s holding in FW fell from 52.2% to 42.6% at YE19, now 43.1%). Allied Minds also restated its FY18 figures to reflect valuation and accounting errors on the deconsolidation of Spin Memory and HawkEye 360, including a $2.4m understatement of associate’s losses for Spin Memory; the gain on the deconsolidation of Spin Memory was understated by $16.4m; and the gain on the deconsolidation of HawkEye 360 was overstated by $11.1m.

During FY19, revenues from engineering and service contracts fell to $2.7m (2018: $5.6m), primarily due to the deconsolidation of Federated Wireless in FY19, as well as the deconsolidation of HawkEye 360 and Spin Memory at the end of FY18. This was in part offset by new contract revenue from BridgeComm of $1.0m.

Cost of revenue at $1.4m in FY19 (2018: $2.8m) fell largely in line with revenues. SG&A expenses decreased by 30%, to $34.3m (2018: $49.3m), with the reduction in central costs implemented in FY19, as well as restructuring charges for subsidiaries closed or deconsolidated in FY18 and FY19. For similar reasons, R&D fell by 36%, to $16.1m (2018: $44.9m).

Net finance income fell to $10.0m (2018: $92.9m) due to the deconsolidation of subsidiaries, partly offset by $9.3m (2018: $91.6m) from IFRS 9 fair value accounting adjustments. Other income rose to $89.4m (2018: $44.0m, restated), partly offset by the company’s share of the $28.9m loss from the deconsolidated entities. Together, this resulted in net profit rising to $50.3m (FY18: $45.4m restated).

Investments held at fair value increased to $61.9m (2018: $56.5m) reflecting a $37.5m increase in fair value adjustments, with $22.2m from the deconsolidation of Federated Wireless. The increase was offset by the sale of Allied Minds’ stake in HawkEye 360 for a cash consideration of $65.6m.

Cash and cash equivalents decreased by $7.2m to $90.6m (2018: $97.7m), with net cash of $69.8m used in operations, $26.5m cash from investing activities and $33.7m cash from financing activities. Of this net cash figure, $84.1m (2018: $50.6m) was held at the parent level.

In FY19, management largely delivered on the measures outlined in the April 2019 strategic review:

With cost efficiencies implemented including restructuring management incentive schemes, reducing headcount, subletting its HQ office space and eliminating other non‐essential third-party costs, on 11 December 2019 management confirmed that recurring central costs would be approximately $6m from 1 January 2020 (although there are expected to be incremental one-off items eg severance payments).

Allied Minds’ portfolio has been shrunk to seven assets, of which only three are material, with the other four representing ‘option value’. The sale of HawkEye 360 led to a subsequent $40m (12.62p per share) return of proceeds from the disposal, paid in February 2020.

With estimated net cash of $31.9m at 4 June 2019 (adjusted for the 12.6p special dividend, investments and costs), management expects to have sufficient cash to allow it to continue to invest in existing assets and maximise the value of its portfolio to shareholders over a three- to four-year time horizon.

In terms of its three principal assets, Allied Minds also reiterated the key operational objectives for each over the course of FY20:

Each of these principal assets made demonstrable progress during FY19 and post year end in FY20, but developments often remain confidential until key partners are ready to disclose progress. All valuations remain unchanged from the values established at the last major funding rounds.

In February 2020, Federated Wireless announced new connectivity-as-a-service (CaaS) offerings with Microsoft Azure and Amazon Web Services (AWS), bringing to market the first private 4G/5G wireless cloud solution (Federated Wireless moves towards commercialisation). The company also announced trials with the UK government, highlighting the untapped international potential of its technology. In April 2020 Federated Wireless raised an additional $13.7m (split equally between Allied Minds and Pennant Investors) in an extension round to the September 2019 Series-C funding round (FW accelerates Microsoft and AWS partnerships).

BridgeComm entered a joint development agreement with Boeing HorizonX Ventures (Boeing) to collaborate on its OTM technology (bi‐directional, ultra‐high-speed mesh connectivity for terrestrial, airborne and space systems), a development from its initial point-to-point solution. The development programme is expected to be completed in phases over the course of FY20–21. In December 2019, BridgeComm secured $1.0m of funding by way of convertible debt from Boeing, with an additional $1.5m committed subject to milestones. Allied Minds subsequently subscribed for $2.0m of convertible debt on the same terms.

During FY19, Spin Memory achieved significant technical milestones with both Arm and Applied Materials. With Arm, Spin Memory completed the design of a prototype demonstration vehicle of Spin Memory’s Endurance Engine coupled with a working MRAM array to show an order of magnitude improvement in MRAM endurance, one of the key challenges in the industry. The demonstration vehicle will also show the performance of many other patented circuits. The prototype and test results are expected later this year. In magnetics, Spin Memory and Applied Materials also made good progress with MRAM solutions, which are expected to displace most on‐chip memory, including both long‐term storage (Flash) and working memory (SRAM). High‐temperature data retention (critical for long‐term memory storage) was demonstrated with good yield. In FY19 Spin Memory was also awarded a ‘multi‐phase, multi‐year, multi‐million dollar’ US government project as the sub-contractor to a leading US semiconductor company.

The company confirmed that, with adequate cash reserves to cover central costs until 2023, COVID‐19 has not had a direct impact on Allied Minds. However, as experienced by the company in the preparation of its final FY19 accounts, we would expect a slowdown in progress for a number of its portfolio companies while travel restrictions persist.

Exhibit 2 sets out our NAV estimate (as at 4 June 2020) based on the FY19 portfolio fair values.

By way of commentary on Exhibit 2, our fair value estimate includes valuations on both an undiluted and fully diluted basis; the realisation value of any asset is likely to fall between these two values.

The FY19 net cash position includes the special dividend of 12.62p ($40m in total) paid in February 2020 from the sale proceeds of HawkEye 360. To the $84.1m parent cash figure, we have then deducted: 1) the $40m special dividend; 2) post year-end investments including $2.0m in convertible notes in BridgeComm, $0.375m in convertible notes in SciFluor and $6.85m in the Federated Wireless extension round; and 3) an allowance for central costs of $3m (at a rate slightly above the $0.5m per month targeted to allow for one-off costs).

This leads to our NAV estimate of 90.9p per share (undiluted) or 78.4p per share (fully diluted), based on historical portfolio company fair values, none of which have been updated subsequent to their last major funding rounds despite continuing positive newsflow.

As a technology holding company with a narrow portfolio, Allied Minds offers exposure to a concentrated number of emerging technology businesses.

Allied Minds paid a special dividend of 12.62p in Q120 ($40m in total) from the sale of HawkEye 360. This material cash exit helps to validate the investment model and together with the group’s focus on cash preservation and reduction in operating costs, we believe it provides a solid platform for robust NAV progress over time.

With our estimated NAV of 90.9p per share (undiluted) or 78.4p per share (fully diluted) (Exhibit 2), the implied 56–62% discount to NAV does not reflect the prospects of the group’s streamlined portfolio.

For reference, we also include Allied Minds’ peer group NAV discounts below in Exhibit 3.