Morning Note: Market news and updates from Walmart and Syncona.

Market News

US equity markets were little changed last night – S&P 500 (+0.1%); Nasdaq (+0.1%), while this morning in Asia, markets were mixed: Nikkei 225 (+0.4%); Hang Seng (-2.1%); Shanghai Composite (+0.1%). Alibaba fell by 10% after the escalating fight between the US and China for technological dominance triggered the company to scrap plans to list its cloud unit. The FTSE 100 is currently trading 0.7% higher 7,464, while Sterling is $1.2378 and €1.1420.

Bond yields continued to slide- the 10-year currently yields 4.44%, while the 10-year gilt is 4.15%, having been 4.75% a month ago. The Fed’s Lisa Cook is “attuned to the risk” of an unnecessarily sharp economic slump, pointing to strain from tighter financial conditions, while noting a soft landing is possible but not assured. She was also among three Fed governors who wrote to Republican Senator Rick Scott saying that while there’s uncertainty over how small the central bank’s balance sheet will get, holdings could still decline “considerably further.” US mortgage rates fell for a third week, easing to the lowest in more than a month. The average for a 30-year, fixed loan was 7.44%, down from 7.5%, Freddie Mac said. China’s holdings of US treasuries declined by the most in a year.

Xi Jinping pledged to make it easier for foreigners to do business in China, while Joe Biden said the world expects the US and China to better manage their competition. Xi ends his first visit to the US in six years on a high note, but the two leaders still have far to go if they want to lift Cold War clouds.

Oil fell by 5% yesterday driven by stronger-than-expected non-OPEC production. However, Goldman believes output outside core OPEC is likely to slow in 2024. Brent currently trades at $77.40 a barrel. Gold continues to trend higher and currently trades at $1,987 an ounce.

Source: Bloomberg

Company News

Yesterday lunchtime, Walmart released results for the third quarter of its financial year to end January 2024 that were in line with market expectations and raised its full-year guidance. However, commentary on the call regarding weak trading in the last two weeks of October spooked investors, sending the shares down 8%.

Walmart operates more than 10,500 stores and numerous e-ecommerce websites under 46 banners in 19 countries. In the face of strong competition, the group’s strategy is ‘to lead on price, invest to differentiate on access, be competitive on assortment, and deliver a great experience’. The company’s sales are massive – $611bn in the last financial year.

In the 13 weeks to 30 October, consolidated revenue increased by 4.3% on a constant currency basis to $160.8bn, versus the guidance provided by the company of 3.0%. However, on the call the CFO highlighted that the company saw a decline in demand in the last two weeks of October.

In the US, comparable sales increased by 4.9% (ex-fuel) to $109.4bn. Growth was made up of a 3.4% increase in transactions (i.e., volume) and a 1.5% increase in average ticket (i.e., price). E-Commerce sales grew 24%, led by pickup & delivery. Sales strength was led by grocery and health & wellness, while general merchandise sales declined modestly. Sam’s Club, the trade business, generated revenue of $22.0bn, up 3.8% in comparable terms (ex-fuel).

At the end of last month, the group announced it will invest more than $9bn over a two-year period to upgrade and modernise some US stores.

Outside of the US, the international business grew by 5.4% at constant currency to $28.0bn, driven by China and Mexico. eCommerce sales fell by 3%. The global advertising business grew by over 20%, led by Walmart Connect in the US (+26%).

Gross margin rose by 32 basis points to 24.0%, driven by a slight improvement for Walmart US and timing of a Flipkart event. The group kept a tight rein on costs – operating expenses as a percentage of net sales only grew by 37 basis points on an adjusted basis on the back of variable pay expenses and store remodels. Adjusted EPS rose by 2% to $1.53, in with market expectations.

Free cash flow rose from $3.6bn to $4.3bn, while net debt ended the quarter at $43.2bn. Excess cash is returned to shareholders through dividends and buybacks. During the quarter, the group bought back $111m of its shares, leaving $18.1bn of its $20bn repurchase authorisation.  The company also paid out $1.5bn in dividends.

The company raised its guidance for the financial year to January 2024: consolidated net sales are expected to grow by 5.0%-5.5% at constant currency (versus 4.0%-4.5% previously), while adjusted EPS of $6.40-$6.48 is forecast (vs. $6.36-$6.46 previously).

Source: Bloomberg

Earlier in the week, Syncona released results for the first half of its financial year to March 2024 and provided an update on its portfolio of life science companies. The shares currently trade on a 30% discount to its NAV.

Syncona is a healthcare company focused on founding, building, and funding global leaders in life science. The current portfolio is made up of 13 innovative companies and several life science investments, each addressing areas of significant unmet need for patients. The focus is mainly on the so-called ‘Third Wave’ technologies, such as gene and cell therapy, which are used in place of surgery or drugs, and which the company believes is currently in a ‘transformational’ period. Syncona also has a strong manufacturing platform capability which allows new products to be rolled out more quickly and efficiently, while creating barriers to entry. In its first 10 years to 2022, the group delivered a portfolio IRR of 26% and progressed 15 clinical programmes.

At the end of last year, Syncona set out its plan for growth over the next 10 years. The company is aiming to organically grow net assets to £5bn by 2032 versus a £1.4bn base, equal to an IRR of 15%. The target is three new Syncona-founded companies a year, delivering an expanded portfolio of 20-25 companies, to deliver top quartile life science portfolio returns. The group is also building an advisory function to enable it to provide further support for the building and management of its portfolio companies at a greater scale. Syncona employs one of three core financing paths: (1) strategic hold – funding companies on a sole basis to clinical proof-of-concept; (2) strategic syndicated – following the launch financing, companies will be syndicated with like-minded long-term investors and are likely to be held privately to clinical proof-of-concept; and (3) fully syndicated – companies syndicated early in their lifecycle by bringing in significant external capital with comparatively lower Syncona investment, to fully exploit the opportunity.

In the six months to 30 September 2023, the NAV fell 4.2% to £1,201m (or 178.6p per share). Against a challenging market backdrop, with dramatic changes to the cost and access to capital, Syncona has undertaken a thorough review of its portfolio and is prioritising capital allocation towards its most promising companies and assets.

The value of the life sciences portfolio fell by 7.0% to £620.9m, or 52% of NAV, driven by a £56.4m write-off of the “Gyroscope milestone payments” following Novartis’ decision to discontinue the development of Gyroscope’s lead programme. This valuation impact was partially offset by a £12.4m gain from an uplift in Autolus Therapeutics’ valuation, due to a 26.6% increase in its share price, and a £7.2m currency gain.

The remaining £580.4m of asset value is a strategic capital base. The group holds 12-24 months of liquidity in cash and treasuries, with c. £307m now also allocated to several low volatility, multi-asset funds with daily liquidity, to manage inflation risk. The overall return within the capital pool was 1.3% in the period. In addition, there is more cash on the balance sheets of the group’s portfolio companies and access to third party financing. At 30 September 2023, all three of the group’s listed companies were funded to deliver clinical data which represent key milestones for their businesses.

This all provides the capital to invest in the life science business as the company builds and scales rapidly. Furthermore, at a time when the financing environment for public and private companies remains challenging, with sector specialist investors continuing to prioritise funding their existing portfolio over making new investments, and an absence of generalist investors in the sector, Syncona’s strong cash position leaves it well placed to take advantage of potential investment opportunities and fund its companies through the current market conditions.

To support its strategy, Syncona aims to maintain three years of financing runway to fund its portfolio. If, in the event of realisations, the capital pool increases significantly in excess of three year forward capital deployment guidance, and subject to an assessment of investment opportunities at the time, the Board would look to return capital to shareholders. In September, as part of that process and in light of the material discount to NAV at which the shares trade and the near-term NAV per share accretion available, the company launched a share buyback programme of up to £40m (5% of market cap). So far, c. £4.7m of shares have been bought back at an aggregate discount of 30%.

The company currently has a ‘maturing’ portfolio of 13 companies, with seven clinical stage companies, accounting for 71% of the life science asset value, of which two are late-stage. There were four financings and four clinical data read-outs in the period, with seven further read-outs post-period end.

Syncona deployed £58.6m, into both new and existing portfolio companies, of which over 80% was invested into clinical assets and assets approaching clinical entry in the near-term. Capital deployment in the full year is still expected to be £150m-£250m.

Over the next 12 months, there are 15 expected milestones across the portfolio which have the potential to enable capital access. There are also six key value inflection points which have the potential to drive significant NAV growth over the next 12-36 months, but are not without risk, particularly given the importance of delivering de-risking clinical data in the current market environment.

With these results, the company has provided a framework to give shareholders more clarity on which milestones and at what stage of the development cycle management anticipates its companies will be able to access capital and drive NAV growth in the current market environment. Below, we highlight three examples:

·       Beacon Therapeutics, the retinal gene therapy company, is close to entering a pivotal Phase II/III trial for its lead product in X-linked retinitis pigmentosa (XLRP), where it has the potential to unlock significant value. There are no approved treatments for XLRP, and the programme has orphan drug designations from both the FDA and the European Commission. 

·       Autolus has reported meaningful and increasingly mature clinical data to date, underlining the potential of its lead therapy, obe-cel, as a drug which can deliver important and durable impact for leukaemia patients. The company continues to expect to file its licence application with the FDA by the end of the year and has developed a strong platform to prepare for commercial launch.

·       After the period end, Freeline Therapeutics released initial data on its lead programme in Gaucher disease which supports the safety and activity profile of the drug in an area where there is a clear unmet need for better treatment options. Since then, and partly in response to the lack of positive share price reaction, Syncona has bid for the 42% of the company it doesn’t already own. If approved, the move will allow Syncona to continue to privately develop Freeline’s attractive product suite and retain all the potential upside.

Overall, although high risk, we believe Syncona provides exposure to a unique investment vehicle, exposed to cutting edge healthcare technology, that provides good portfolio diversification. The group’s investment track record to date is impressive – the disposal of portfolio companies has consistently generated an attractive return on invested capital. As always, data generated from the clinical pipeline will be a critical driver of value, and while not without risk, the group has several portfolio companies approaching key milestones over the next few months that could provide a catalyst for the share price.

The shares, which are listed on the FTSE250 index, have drifted lower over the last couple of years, due in part to the impact of rising bond yields on the valuation of, and appetite for, unprofitable ‘blue-sky’ companies. The recent retreat in bond yields and the pick-up in sector M&A could provide positive triggers. The shares currently trade on a 30% discount to our estimated live NAV of 186p.

Source: Bloomberg