IP Group — Priority companies making progress in 2022

IP Group reported an NAV per share of 132.9p at end-2022, down 20% year-on-year in total return (TR) terms but only 2% below the end-June 2022 level. This decline reversed some of the 2021 NAV TR of 35%, bringing its end-2020 to end-2022 return to c 8%; see Exhibit 1.

The NAV fall in 2022 was primarily driven by IP Group’s listed holdings (with a £428.5m loss before FX impact), most of which came from ONT (£369.7m, see Exhibit 2), which is IP Group’s largest holding (16% of end-2022 total portfolio value). ONT successfully completed its initial public offering (IPO) in September 2021, allowing IP Group to realise £84m on its investment by selling around one-fifth of its stake. This brought IP Group’s total partial realisation from ONT to £106m, already more than its total investment of £77m. IP Group held a c 10% stake in the company, valued at £205.5m at end-2022, which (despite the 65% share price drop in 2022 to 246.5p vs the IPO price of 425p) implies a healthy gross multiple on invested capital of c 4.0x (of which 1.4x is realised).

ONT reported on 21 March 2023 that its Life Science Research Tools (LSRT) revenue in FY22 stood at £146.8m, which is within its FY22 guidance of £145–160m issued in March 2022 (even if at the lower end of the range). This implies 30% year-on-year underlying growth (excluding the FX impact and revenues from the Emirati Genome Program and COVID-19 sequencing). IP Group’s management highlighted that most of ONT’s peers reduced their sales growth guidance for FY22 to below 10% or withdrew it altogether throughout last year. ONT also reported an LSRT gross margin of 56.3% (vs 53.8% in FY21) and an adjusted EBITDA loss of £78.6m (vs £57.7m in FY21). Its cash, cash equivalents and other liquid investments amounted to £558.0m at end-2022 compared to £618.2m at end-2021. ONT’s management now guides to LSRT revenue growth of 16–30% on a constant currency basis in FY23, or more than 30% on an underlying basis both in FY23 and in the medium term. LSRT gross margin guidance now stands at more than 60% in FY23 and more than 65% in the medium term. The company continues to target adjusted EBITDA break-even by FY26.

Meanwhile, several of IP Group’s top private holdings from the cleantech sector saw valuation uplifts during FY22:

IP Group’s cleantech vertical is now branded as Kiko Ventures, its fully owned platform launched in 2022. Its team exhibits a solid track record with a gross internal rate of return (IRR) of over 30% and gross realisation proceeds of £150m since the establishment of IP Group’s cleantech theme. Kiko Ventures seeks to position itself as the UK’s leading cleantech VC player and has recently become the founding member of the ‘Cleantech for UK’ initiative, backed, among others, by Breakthrough Energy founded by Bill Gates.

IP Group’s life sciences exposure (excluding ONT) reported a net portfolio loss of £41.8m in FY22 (c 10% of end-2021 fair value), driven primarily by:

While the fair value of Istesso (IP Group’s second-largest life sciences holding after ONT, making up 8% of end-2022 portfolio value) remained stable in 2022, we note that it has commenced a Phase IIb trial of MBS2320 for rheumatoid arthritis. Moreover, it received fast-track and orphan drug designations for the treatment of idiopathic pulmonary fibrosis. IP Group announced on 30 January 2023 that it was aware of exploratory discussions around a potential business combination involving Istesso, which have been terminated.

Similarly, while the fair value of Crescendo Biologics remained stable year-on-year, we note that the company signed a US$750m collaboration with BioNTech to combine its Humabody technology with BioNTech’s mRNA platform in the creation of novel therapeutic agents. As part of the agreement, Crescendo received an upfront payment of US$40m (in the form of cash, equity and research funding) and will be eligible to receive development, regulatory and commercial milestone payments up to a total of more than US$750m, plus tiered royalties on global net sales.

IP Group’s deep tech portfolio was marked down by £18.0m (or 8% of end-2021 fair value) including an £8.1m (or 33%) downward revaluation of SaltPay (a provider of mobile payments with integrated loyalty schemes). These fair value adjustments mostly reflect the softer valuations of late-stage VC businesses across the market. On top of this, Import.io (an operator of a web data integration platform) was marked down due to a shift in market conditions that severely affected its commercial position, while the share price of Mirriad (a company that uses artificial intelligence, AI, to place advertising into video content) fell by c 83% in 2022. Still, IP Group’s management highlighted that several holdings have displayed solid operating performance (with double-digit revenue growth in FY22), including Featurespace (AI-based predictive analytics for fraud, money laundering and cybercrime prevention), Garrison Technology (anti-malware and anti-phishing solutions for enterprise cyber defences) and Ultraleap (a company building touchless hand tracking and haptic technologies for virtual and augmented reality experiences).

IP Group remains positioned as a leading investor in impactful, early-stage projects with a differentiated deal origination network and strong sector expertise. It aims to focus over the next three years on driving returns from its more developed holdings and devote resources to its ‘priority companies’, which it believes will underpin its self-sustaining model. In this context, we note that while the company’s portfolio consisted of 95 companies at end-2022, its top 20 holdings represented 76% of NAV.

IP Group’s key portfolio milestones/catalysts this year include:

IP Group now trades at a c 58% discount to end-2022 NAV versus 26% and 21% at end-2021 and end-2020, respectively. This likely reflects the recent pressure on VC deal volumes and valuations from macroeconomic headwinds. That said, we estimate that (after accounting for the c 15% year to date decline in ONT’s share price and applying a 10% discount, which IP Group may have to accept when selling a larger ONT stake) IP Group’s current market capitalisation implies a c 73% discount to its gross private portfolio value (excluding cash and deposits) at end-2022 (and only captures c 41% of the end-2022 carrying value of its top 20 holdings excluding ONT).

We believe that, while a further decline in NAV cannot be ruled out, there are several factors that provide a certain degree of downside protection in terms of IP Group’s net asset value:

IP Group noted that the fair value of several later-stage holdings was marked down at end-2022, for example in the case of Hinge Health (see above) and some of IP Group’s deep tech holdings (as median public revenue multiples fell from 18.6x to 5.4x, according to IP Group’s management). Meanwhile, we think that early-stage VC valuations seem to have been generally more resilient across the market because: (1) they were less inflated in 2020–21 than late-stage VC valuations (especially pre-IPO candidates); (2) they are less often valued based on revenue multiples versus public peers than late-stage VC; and 3) they are further away from a VC exit, thus having more time to realise their valuation potential. PitchBook even suggested recently that non-traditional VC investors (corporates, financial institutions including investment banks, private equity (PE) firms, sovereign wealth and pension funds, hedge funds, etc) may turn to earlier-stage VC companies (several years from an exit) to shield themselves from near-term volatility.

Furthermore, IP Group’s management highlighted that UK VC valuations have not been inflated to the same extent as US VC and remain 70% below US levels in seed and series A rounds, based on PitchBook data. Overall, IP Group’s management highlighted that the auditor reiterated its opinion that the company’s valuation approach is ‘mildly cautious’. Management hosted a valuation deep-dive event on 23 March 2023.

Another factor that may be contributing to IP Group’s wide discount to NAV is investor anxiety over the ability of listed VC investment companies to provide continued funding to their portfolio companies (and the risk of potential dilution if they do not participate in the next funding rounds). Here, we note that IP Group has built a sizeable liquidity buffer by closing a £120m private debt issue to London-based investors (primarily Phoenix Group) in August 2022, as well as reducing capital allocations to its portfolio.

The recently raised debt bears an average fixed interest rate of 5.25% pa and will mature in three equal tranches in 2027, 2028 and 2029. Its main covenants include a minimum cash balance of £25m at any time, equity of at least £500m and maximum gross debt less restricted cash at 25% of total equity (as at the end-June and end-December). The first £60m tranche was drawn in December 2022 and the second will be drawn in June 2023. Around £15m from the first tranche was used for early repayment of the short-dated portion of IP Group’s debt from the European Investment Bank (EIB), with the remaining £22m of the EIB debt to be repaid progressively to January 2026. As a result, its gross cash and deposits reached £241.5m (or 19% of total portfolio value) at end-2022 (see Exhibit 5), assisted further by potential liquidity from its listed holdings (valued at £228.7m at end-2022, with no lock-up on the ONT shares) and the £60m of undrawn debt. Moreover, the company had £48.2m of deferred consideration at end-2022, mostly from WaveOptics (£28.8m second tranche of exit proceeds due in H123), as well as Enterprise Therapeutics (£12.5m) and Kuur Therapeutics (£5.6m).

IP Group’s confidence in its liquidity position is illustrated by its final dividend declaration of 0.76p per share, bringing the total FY22 payout to 1.26p, up from 1.20p in 2021. The distribution represents c 50% of its realisation proceeds, which compares to c 20% in 2021. While management highlighted that it has not set a fixed proportion of exit proceeds to be distributed to shareholders, it flagged that the 2021 ratio is a quite good reference point going forward (assuming a more normalised exit environment).

We believe that a solid safety margin in terms of liquidity is important given the current tougher exit environment, with Q422 European VC deal volumes down by 54% y-o-y to €12.8bn, according to PitchBook. This is also reflected in IP Group’s realisations of just £28.1m in 2022 (vs £213.4m and £191.0m in 2021 and 2020, respectively), mostly coming from Diurnal (£13.7m, see above) and Re:Infer (£8.6m, on which IP Group realised an IRR of 29.0%). Having said that, we note that the Q422 European VC deal volumes represented only an 8% decline from Q420 and that ‘landmark’ deals are still being completed, as illustrated for instance by Oxbotica’s latest funding round (see above).

In terms of capital allocations, IP Group invested £93.5m in FY22 (vs £106.8m in FY21, see Exhibit 6) across 46 new and existing investments. IP Group’s management highlighted that the company made several new investments, three of which were explicitly mentioned in the results release:

Major follow-on investments in 2022 include Istesso (£10.0m), Featurespace (£10.0m), Bramble Energy (£9.5m) and Hysata (£5.1m). Overall, its portfolio companies raised £1.0bn in funding in 2022 (of which 9% was from IP Group), less than the £2.4bn in 2021 but similar to 2020 and above earlier years. Therefore, IP Group’s management considers most of the portfolio as being well funded, although it did not provide detailed information on the cash runway across its portfolio, which we think could further reassure investors that IP Group’s portfolio companies have a large cash cushion. That said, management highlighted during the recent valuation deep-dive presentation that most of the top 20 holdings that need to raise funding still have a cash runway towards the back-end of 2024. Management highlighted during the investor call that the investment pace over the next one to two years should be similar to 2021–22. It has earmarked £200m over the next five years for Kiko Ventures alone.

In the context of IP Group’s prospective liquidity at holding level, we also note that its administrative expenses (excluding the carried interest plan charge and share-based payments) stood at £27.4m (down from £33.2m in 2021) and were partially covered by IP Group’s other income of £7.1m, which includes fund management fees, as well as licensing and patent income. IP Group’s assets under management grew from £575m at end-2021 to c £697m at end-2022, though IP Group’s other income declined from the high base in FY21 of £13.6m.