TLSR: Ram, shall we talk about some companies now? RS: Sure. We recently initiated coverage on a company called Cynata Therapeutics Ltd. (CYP), which is an Australian-listed firm. We have a price target of AU$1/share on the stock, which is currently trading at roughly AU$0.35-0.36/share.
We believe this company is particularly interesting because, unlike other firms operating in the stem cell space, it is positioning itself as a manufacturing solution. It has developed a proprietary technology platform called Cymerus, which utilizes an inducible stem cell line. Because it's a stem cell line, you can effectively produce and proliferate as many cells as you want, ad infinitum. You can then differentiate these cells into mesenchymal stem cells (MSCs). So far, MSCs represent the only stem-cell category that has gotten market approval. You have an MSC solution belonging to Melbourne, Australia-based Mesoblast Ltd. (NASDAQ:MESO) called TEMCELL (remestemcel-L), which is currently approved in Canada, New Zealand and Japan. It has been under consideration in the U.S. for quite some time. TLSR: MSCs are available for harvest from young, healthy individuals, and they can be propagated and expanded ex vivo for patients who need them. Why do you want to induce an allogeneic MSC? Is it to make them more embryonic-like, more immune-privileged? RS: The concept is that by having a cell line, you have a product entirely amenable to regulatory quality control standards. Yes, there are ways to generate MSCs allogeneically, but we have yet to come across a company that has a cell line-based way to propagate them. Having a cell line means that all the batches are identical. It's a drug-like characteristic that is important in manufacturing and quality control. The MSC product is standard, and everything conforms to strict quality control standards. That makes the regulatory process much easier to navigate. We feel this is the principal advantage of using a stem cell line versus any of the existing methodologies.
In addition, you can only go so far with the traditional allogeneic approaches to expanding MSCs. With Cymerus, you have a theoretically unlimited capability to expand and provide an "off-the-shelf" therapy on a commercial scale.
Cynata has, in our view, the only truly sustainable production platform for MSCs. Thus, the company could conceivably be the manufacturing partner of choice for any company that wants to be in the MSC therapeutic space. Cynata is more risk-mitigated than the average stem cell company because it's not focused on doing clinical development and product development entirely on its own.
The company wants to validate its technology platform by generating additional clinical data, which it anticipates doing later this year. It also recently got authorization from the United Kingdom's Medicines & Healthcare Products Regulatory Agency (MHRA) to begin a Phase 1b study of its proprietary cells in graft-versus-host disease. But the company feels its value-added proposition is within the context of being a manufacturer for other companies focusing on the development of MSC-based therapeutics. It's the only company with a cell line capable of generating therapeutics at commercial scale. TLSR: That sounds like a commodity-class company. How do you create a value-added, brand-style model out of this platform? RS: I don't think we would necessarily agree that this is a commoditized business model. But it's a fair question. Usually, if you're a service provider, you play in a commoditized market. But from what we have seen so far in terms of precedent partnership transactions in this space, potential partners and collaborators would regard this as a commodity, and we believe they would pay accordingly.
These are not service agreements, where Cynata gets a modest mark-up on cost of goods and that's it. We would be looking at Cynata to do licensing transactions that involve significant upfront payments, regulatory milestone payments, and decent royalties on net sales of future MSC-based products that utilize the Cymerus manufacturing technology platform. The company could potentially strike agreements such as the one Athersys Inc. (ATHX:NASDAQ) has with Tokyo-based big pharma Healios KK (4593:TYO), which will develop Athersys' MultiStem (allogeneic multipotent adult progenitor cells) for ischemic stroke in Japan. The deal was announced in early January, and Athersys is getting a $15M upfront cash payment, with an option Healios can exercise for another cash payment of $10M. But there are also milestones that Athersys could garner during the development process, and they could add up to another $30M, as well as sales milestones of as much as $185M. Athersys will also get tiered royalties if the product is commercialized, including royalties for using the Athersys trademark.
This is just one example. Celgene has an investment in Mesoblast; Novartis AG (NYSE:NVS) has an investment in Gamida Cell Ltd. For Cynata, we are looking at upfront cash payments and milestone payments prior to commercialization, and double-digit royalties ranging anywhere from 10-20% on net sales of its products, which could potentially generate hundreds of millions of revenue each year. TLSR: Cynata Therapeutics has an AU$30M market cap. Even if this technology is fabulous, which institutional investors can buy this stock to bid the shares up?
RS: There are always investors looking for value in the micro-cap space. If you are an institutional investor-a healthcare-focused hedge fund-it behooves you to have some exposure to the micro-cap domain because of the sheer scale of the alpha that can be generated, even upon the achievement of relatively modest milestones. If you have a company trading at a $20-30M market cap, like Cynata, and it inks a deal where the upfront payment is $5M and the total value of the transaction is over $100M, with all of the potential milestones involved, then the aggregate net present value of that transaction constitutes a 2-3x return. That's not the kind of magnitude of return you're going to see with a company that trades at a $200-300M market cap.
As I always say, it's easier statistically to find companies out there that will go from $20M to $200M valuations within 12 months than it is to find companies that go from $200M to $2 billion ($2B), or $2B to $20B. The percentage return in your portfolio is exactly the same, but the likelihood of being able to identify companies that achieve that kind of percentage return increases as you go down the cap levels.
