Analyst Green, Biotech, Italian …what else? · 2020-01-15 · Arterra Bioscience | Initiation of...

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ValueTrack | Initiation of coverage | 14 January 2020

Arterra Bioscience Sector: Biotech

Green, Biotech, Italian …what else?

Analyst Valentina Romitelli [email protected] Marco Greco [email protected]

Arterra Bioscience is an Italian research-based biotech company listed on AIM Italia in November 2019. It develops innovative molecules and leverages its expertise to manufacture bio-active ingredients for the cosmetics industry, with ready-to-go applications also for nutraceutics, medical devices and agrochemicals.

Long and wise development phase to get to the right model Arterra was born as a pure research centre but has always monetized its activities via research grants and contracts, maintaining positive margins. Overtime Arterra has i) proven its ability to generate patents, innovative ingredients and technologies; ii) built R&D process know-how and iii) launched a profitable production model, based on bio-factories. Now revenues come from research grants (17% in 2019E), research contract&services (16%) and sale of active ingredients for cosmetics (63%) and the company is ready to replicate this model in other sectors.

Now plenty of growth ahead Today Cosmetics represent 100% of manufacturing revenues towards the exclusive partner Intercos Group, however we see a strong growth potential for Arterra: i) in the cosmetic industry, through the existing partnership; ii) from the diversification into new end markets, as nutraceuticals and medical devices, though a similar business model and new partnerships; iii) via an IP model in other industries, where direct production does not suit.

Revenues + 18% CAGR into 2021E, driven by cosmetics (+25%) Our 2019E-21E model is driven by the growth in cosmetics (25% 3yrr CAGR), as the diversification is assumed very gradual with no revenues before 2021. Arterra should deliver a 3yrr CAGR of ca. 18% for top line and EBITDA and 8% for adj. net profit and invest €1.9mn in capex. The IPO net proceeds (€3.2mn) will be also used to strengthen the corporate structure and team, given the expected increase of business size and complexity, albeit this will affect margins in the short term (2020E).

Fair value at €4.2per share, or 4.8x 2020E EV/Sales Our valuation comes from a mix of DCF and relative multiples, the latter driven by EV/Sales, the most meaningful multiple in the peer’s group. The combination of the two methods offers a fair value at €4.2 per share.

At current market price, Arterra trades at 4.8-4.0x EV/Sales and 13.7-11.6x EV/EBITDA for 2019E-2020E respectively. Peers trade on large premium: 9.2x-8.2x on 2019E/2020E EV/Sales

Fair Value (€) 4.20

Market Price (€)(*) 3.70

Market Cap. (€m) 24.2

KEY FINANCIALS (€’000) 2018A 2019E 2020E

REVENUES 2,978 3,431 4,081

EBITDA 1,140 1,216 1,413

EBIT ADJ. 1,067 1,074 1,214

NET PROFIT ADJ. 1,044 932 926

OPFCF a.t. 402 42 517

NET INV. CAP 2,384 3,155 3,436

EQUITY 2,559 7,081 7,663

NET CASH POS. 175 3,926 4,227 Source: Arterra (historical figures), ITA GAAP Value Track (2019E-20E estimates)

RATIOS & MULTIPLES 2018PF 2019E 2020E

EBITDA MARGIN (%) 38% 35% 35%

EBIT MARGIN ADJ. (%) 36% 31% 30%

NET DEBT / EBITDA (x) nm nm nm

NET DEBT / EQUITY (%) <0 <0 <0

EV/SALES (x) nm 4.8 4.0

EV/EBITDA (x) nm 13.7 11.6

P/E ADJ. (x) nm 26.0 26.1

DIV YIELD (%) 8.3 1.0 1.0 Source: Arterra (historical figures), ITA GAAP Value Track (2019E-20E estimates)

STOCK DATA

FAIR VALUE (€) 4.2

MARKET PRICE (€) 3.7

SHS. OUT. (m) 6.5

MARKET CAP. (€m) 24.2

FREE FLOAT (%) 26.9

AVG. -20D VOL. (#) 19,912

RIC / BBG ABS.MI / ABS IM

52 WK RANGE 3.23-5.34 Source: Stock Market Data (*) Price at market opening Jan 13

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Arterra Bioscience | Initiation of coverage | 14 January 2020

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Table of Contents

Executive Summary 3

Arterra at a glance 7

Business model 10

The cosmetic business 15

Next steps: nutraceutical and agro 21

Historical financials 24

Interims results 1H-9M 2019 29

Forecasts 2019-2021E 32

Valuation 38

Forecast summary tables 46

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Executive Summary Arterra Bioscience is an Italian research-based biotech company (“PMI Innovativa) focused on developing innovative molecules and leveraging its expertise to manufacture bio-active ingredients for the cosmetics industry, with ready-to-go applications also for nutraceutics and agrochemicals.

The company has recently listed on AIM Italia through a public placement worth ca. €5.7mn, with €3.2mn of net proceeds to be used to fund production acceleration in the cosmetic business and its diversification into other end-markets, as well as to strengthen the management structure.

We expect the company to deliver a top line and EBITDA CAGR of 18% into 2021E, even if we expect FY2019 results to factor a relatively weak 4Q, affected by an extremely tough y/y comparison and by the limited marketing efforts by the CEO Mrs Colucci during the long IPO process. Also, our forecasts incorporate a material effort to strengthen the management team (already from 1Q 2020), but do not incorporate a visible contribution from the diversification process, as the company is still seeking the best partnerships to exploit its potential outside cosmetics and we do not expect sizeable revenues before 2022.

We value Arterra on a mix of a “fair” 2021E EV/Sales multiple and DCF model, which supports a fair value of €4.2 per share (vs IPO price of €2.6)

Arterra: a young & wise biotech company Founded in Naples in 2004 by an Italian Senior Research Scientist - with a rich international curriculum and 9 years’ experience in the US, of which 4 with Bio Pharma Arena Pharmaceuticals Inc. (USD2.3bn market cap) - Arterra is a research biotech company which leverages its expertise to manufacture bio-active ingredients for the cosmetics industry, with ready-to-go applications also for nutraceutics and agrochemicals.

Arterra was born as a mere research center, which has always skillfully monetized its activities in form of grants and research contracts, constantly maintaining positive margins: a rare feature in the research field. Through the years, besides its proven ability to generate streams of patents and develop innovative ingredients and technologies, Arterra built a technological and process know-how that allowed it to add an extremely profitable production model.

The evolution was accelerated thanks to the strategic and exclusive partnership with a leading player in the global manufacturing of cosmetics, the Intercos Group: in 2010 the two partners created the joint-venture Vitalab to combine Arterra’s outstanding know-how in biotechnology and skin-care innovative applications and Intercos’ global commercial network and access to premium brands. This partnership let Arterra enter a large and growing addressable market with strong entry barriers and in a few years (directly and via Vitalab) the Company gained the trust of many top global brands. This is reflected in the rapid expansion of the business (FY2019E revenues at €3.4mn and almost €1mn adj. net profit), but most has still to come.

Plenty of growth ahead: in cosmetics and elsewhere Today Arterra business is very much focused on cosmetics, which represent 100% of its manufacturing revenues and these all go to the Intercos Group (including the Joint Venture Vitalab, where Arterra owns a 24.99% stake), being it Arterra’s exclusive partners in the cosmetic segment. However, we see a strong growth potential for Arterra:

i) in the cosmetic industry, through the existing partnership;

ii) from the diversification into new potential end markets, as nutraceuticals and medical devices, with a similar business model of direct production and new partnerships;

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iii) via an IP model in other industries, where compounds have typically lower added value and much higher volumes, as in agrochemicals.

…for valuable molecules from (and for) green and sustainable manufacturing Arterra’s active ingredients are currently used in skin-care products, but the presence of valuable active ingredients is expected to increase materially in other cosmetic lines, as make-up and hair&body, due to the increased demand for functional products and specific compounds.

In addition, the market for ‘bio’ and organic segments of cosmetics shows a positive outlook for the upcoming years, thanks to supporting trends of environmental sustainability and health concerns related to the use of synthetic chemicals. The combination of increasing demand for functional compounds as well as for green and sustainable production models perfectly fits Arterra proposition.

Similar trends support the expected growth of other end-markets potentially addressable by Arterra, and management believe existing know-how is likely to generate strong results from new applications in nutraceuticals, medical devices and agrochemicals. These markets show an increasing demand driven by trends related to organic food, sustainability and health awareness and Arterra has already developed and patented a few potential molecules and methodologies in these fields.

Business Model profitable and scalable Arterra’s business model has slowly changed over time, growing in complexity from a tiny start-up in 2004 to a larger research center, developing thereafter a profitable production system initially launched for the cosmetic market, but which is now set to expand into new applications.

This model, built over years and now tested, seems to allow good scalability and profitability:

® the innovation platform (R&D team with ca. 150 years of cumulated experience and outstanding external experts) is proven by its track-record of grants and contracts, that relates to diversified applications in terms of technologies and end-markets. It should keep supporting Arterra growth in existing and new fields of application, sometimes simply developing what already achieved over the last ten years of research efforts;

® Arterra’s compounds are produced through an extremely profitable “manufacturing” model, where bio factories, and another 80 years of cumulated experience within the tech team, allow outstanding yields with relatively limited investments. The same model is expected to work in other industries that require valuable active ingredients, as food supplements and medical devices, or cross sector applications, as bio preservative;

® IP model should be applied in segments where volumes and margins do not suit the production model, in order to grant the required scalability (e.g. agrochemical).

… and mix of variable & fixed costs suggests margin upside The direct production and IP models should leverage and exploit the R&D potential, finding new and growing sources of revenues that will gradually add to the research grants and to the sales in the cosmetic business. This is expected to bring a massive scale effect on research costs and boost overall margins in the medium term.

In fact, a great portion of Arterra’s operating costs is generated by the research activities, which guarantee the Company long-term competitiveness. On the other hand, Arterra’s production model requires very limited resources in terms of raw materials, labour as well as relatively low investments in capex. The result is that today the bulk of costs are linked to the R&D platform and are due to grow at a pace that is much lower than top line, while margins on the expanding manufacturing business are extremely high and should boost profitability as volumes increase. While this effect is counterbalanced in the short term by the need of reinforcing the management/corporate team, we expect margins to reach in 2021E those recorded in 2017-18, and further improve afterwards.

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Financial outlook: 3yrr CAGR of 18% top line, 19% EBITDA, 8% adj. earnings Our 2019E-2021E model factors only the growth coming from the cosmetic business, as we do not expect Arterra to exploit its diversification potential so quickly: it may take years to go from development of new active molecules to actual sales of compounds. Yet, our forecasts suggest over the next three years (2018-21E CAGR) a growth of 18% for top line, 19% for EBITDA and 8% for net profit adj. (for IPO costs amortization), the last being affected by increasing D&A and normalized tax rate. We also assume the Company to invest €1.9mn in capex over this period and pay out ca 25% of net profits and forecast the net financial position to remain positive.

While the medium-term outlook is strong and appealing, we also underline the volatility of Arterra business, which still suffers from a very low level of predictability and planning. Due to the nature of the cosmetic business, the small size of the company and the high concentration of clients, Arterra’s top line trends are erratic and growth rates may vary a lot from quarter to quarter: in 4Q19E we expect negative top line to follow the strong growth reported over the 9m (+39% y/y).

…but execution and speed of diversification will make the difference Management priority after the IPO finalization has been the identification of new key people to strengthen the extremely lean management team as well as the R&D and production capacity: the IPO process itself has made clear the urgent need of a larger management team to combine day-by-day management and “special projects” (as the IPO, but also diversification). The lean structure of Arterra (28 people as of today) is expected to manage a material increase in production capacity, output and business complexity already in the next quarters, as cosmetic revenues accelerate and the number of clients grows accordingly, as Arterra deals directly to many final business clients.

We expect focus to move to diversification from Q2 2020 and this may lead to sizeable changes to be incorporated in our model from 2021 onwards: strategy implies entering new segments and building new partnerships - all this will require an “up & running” team to execute.

Valuation requires a few caveat and points to a value of €4.2 per share We have performed the valuation of Arterra based on Discounted Cash Flow Model (DCF) and Peers Analysis. We consider DCF a reliable approach, despite the small size of the business, due to Arterra consistent and sustainable cash flows. However, DCF does not factor the value of optionality that stocks in this field normally incorporate. As for peers, we point out that i) the only meaningful multiple is EV/Sales, due to the relatively recent history of most players - which often show negligible revenues and most of times negative margins - and ii) even EV/Sales multiples tend to widely vary over 2019E-2020E. This has driven us to focus our peer valuation on 2021E EV/sales.

The combination of the two valuation methods (which lead to similar outcomes though) drives to a value of €4.2 per share, which implies the following multiples 2020E: 4.8x EV/Sales (peers at 8.2x), 13.9x EV/EBITDA and 29.7x adj. P/E.

Arterra: Implicit stock trading multiples

EV/Sales (x) EV/EBITDA (x) P/E (x)

2019E 2020E 2021E 2019E 2020E 2021E 2019E 2020E 2021E

PEER GROUP median 9.2 8.2 5.8 18.9 17.0 15.7 30.3 29.6 28.4

PEER GROUP average 11.4 8.0 6.4 18.4 16.9 15.8 31.7 28.6 32.0

ARTERRA at IPO 2.8 2.2 1.8 7.8 6.5 4.5 18.2 18.4 13.0

ARTERRA at mkt 4.8 4.0 3.2 13.7 11.6 8.3 26.0 26.1 18.4

ARTERRA at target 5.8 4.8 3.9 16.4 13.9 10.0 29.5 29.7 20.9

Source: Value Track Analysis

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Key concerns

Partnership with Intercos is very “balanced” but still crucial The partnership with Intercos has been a catalyst for Arterra entrance in the cosmetic industry and appears successful, being balanced in terms of relative interests and contribution: strengths and needs of the two partners fit well. Yet, it is a fact that Arterra today sells 100% of its compounds and most of its R&D services to the Intercos Group and consequently there is a concentration of its risk, not only from a commercial point of view. The contracts and agreements ruling the partnership and the joint venture in the cosmetic segment have a five-year duration (expiring in year 2024) and represent a key element of the financial prospects of Arterra, as we expect diversification to be slow and not to drive the expected growth over 2019-2021E. Having said this, we believe Arterra to be in a position of balanced relationship with Intercos, despite its much smaller size, as long as Mrs. Colucci remains at the helm of the company and Intercos appears a solid partner with strategy of further expansion and diversification. Moreover, Intercos has recently entered the share capital of Arterra purchasing a 8.8% stake as anchor investor in the company’s IPO, and it is planning an IPO itself.

A proper management team is key to reduce execution risk Arterra employs 28 highly skilled people, including several PhDs, graduate and undergraduate biologists, geneticists, food scientists and insect biotechnologists, as well as several skilled lab technicians. Even though the Company has a structured and diversified workforce and an outstanding board member in charge of R&D, the strategic direction of the Company is entirely upon the founder Gabriella Colucci. Following the IPO completion, Arterra has already opened a few key positions also at corporate level, to strengthen its structure, yet we believe this is likely to remain one of key potential risks for the company. We also expect management to increase focus on business planning and optimization as for marketing, order collection and production: the company will need to combine its flexibility (a key competitive advantage) with more standardized processes and better planning, as required by growing scale. Arterra is already investing in the production process digitalization, but growth and diversification will require a stronger effort in order to get sales, supply, outsourcing, accounting and control functions up to speed. The lack of these capabilities may slow and/or limit materially the company’s growth potential and/or its profitability.

Business is hard to plan and quarterly results volatile The business of Arterra is highly unpredictable, both on the research and on the manufacturing side. While this is expected for research services and even more for grants, this may come more as a surprise for the manufacturing business. However, also in cosmetics management has a short-term horizon, as orders often require deliveries in a few weeks, and rarely leave the production team one/two months to comply with requests. Most of “prestige” clients and large multinational are recurring albeit “indirect” clients, however the precise timing and volumes of their orders throughout the year are hard to predict. In addition, there are a few spot clients (mostly in the Far East), whose orders are often non-recurring, which add further complexity to production planning and optimization. These features lead to a volatile trend of orders and deliveries, which may affect/inflate the performance of the single quarter and hence increase the volatility of quarterly results (and stock price). While this issue will be gradually smoothed by growth and diversification of clients and products, it is likely to be a driver of volatility in the next quarters.

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Arterra at a glance Arterra Bioscience is an Italian research-based biotech company with strong know-how in biological science and extensive experience in screening for the discovery of active molecules.

Founded in 2004, by Dr. Gabriella Colucci, the company studies signal transduction mechanisms in plants, animals and human cells. Arterra identifies and characterizes new active compounds having potential industrial applications in cosmetics, nutraceutical (as functional food and medical device) and agrochemical markets (as biostimulants). The Company also runs a “green” manufacturing activity of valuable active ingredients thanks to its bio-factories (plant stem cell or algae culture, extraction, enzymatic digestion and fermentation technologies).

In FY 2018 63% of revenues came from sale of active ingredients (for the cosmetic industry), 19% from research contracts and services and the remaining 18% from research grants. Despite the small size, it is profitable and had no debt prior to the IPO, which brought to Arterra €3.2mn net proceeds.

Key Facts & Figures Arterra Bioscience is a research biotech company (€ 3.0 mn FY2018 revenues with an 8.5% YoY growth and (ca. € 2.5 mn in 9m19 +39% YoY) which delivers innovation discovering new active molecules of natural origin. Developing innovative technologies and bio-sustainable industrial products, it works through a series of application sectors ranging from agricultural, cosmetics up to industrial processes. It also runs a manufacturing business where the Biotech Manufacturing is based on the use of cells from plants or algae as bio-factories to produce with sustainable procedures valuable molecules. The ingredients produced are intended to be highly effective, rare in nature or difficult to obtain from wild sources. As of today, the key end market in manufacturing is Cosmetics, represented by Skincare revenues (66% of 9m19revenues).

Arterra identifies itself as a company composed of a young research and technology team with strong experience in Biology, Biotech, and Genetic. One of the main assets of Arterra is the know-how and the years of specific experience of its R&D and Technology team: 230 years in total (including the founder).

The company is headquartered in Naples, where it has its operational and administrative head office. This location offers three specific features:

® Accredited Universities and Research Centres;

® Lower R&D costs with respect to other science poles (thanks to relatively low cost of life);

® EU Support for research and possible funds (such as Progetto EU: FP7 and Horizon 2020).

Arterra has a long list of main scientific achievements, including:

® 15 Grants proposal approved and financed. The total value of these grants financed so far is around €11mn and the latest one in 2018 is for a nutraceutical research project;

® 17 Patents (7 worldwide patents, 10 Italian patents);

® 28 Scientific Articles on Peer Reviewed Journals;

® A deposited trademark (Calmberry TM).

On top of the scientific achievements, in 2018, the founder Mrs. Colucci won the Marisa Bellisario Prize as a Women Value Company and the EU Prize for Women Innovators; while in the 2019 edition of In-cosmetics Global exhibition, Arterra was ranked 1st in the Rising Star Award (with the related company Vitalab) and 3rd in the Green Ingredient Award.

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Arterra at a glance: key figures

€'000 FY2017 FY2018 1H19 9m19

Sales of active ingredients 1,503 1,868 1,269 ca. 1,600

y/y change 57% 24% 62% 46%

Research revenues 1,242 1,110 604 ca. 900

Total Revenues (Value of Production) 2,745 2,978 1,873 ca. 2,500

y/y change 45% 8% 40% 39%

EBITDA 1,167 1,140 742

EBITDA margin % 43% 38% 39.6%

Net Profit 745 1,044 582

Net Profit margin % 27.1% 35.1% 45.9%

Net Fin.Position [(-) Debt, (+) Cash] -42 175 949 ca. 900

Source: Arterra, Value Track Analysis

A bit of History Arterra is relatively young and its model has gradually evolved since inception, seeking the best way to monetise its R&D expertise and flexibility. This “evolution” could be described as follows:

1. Start-up phase – until 2008 Arterra builds its know-how and credibility in the biotech R&D field and patents its first processes with multiple applications, relying on R&D grants. It initially focuses on agronomic applications, thanks to a capital injection by Isagro and research contracts;

2. Research phase – between 2008 and 2010 Arterra enters the cosmetic field, becoming research partner and innovative active ingredients developer of Intercos, but until 2012 the bulk of company revenues remains in research contracts and grants;

3. Production phase – after the creation of a JV with Intercos at the end of 2010 (Vitalab), Arterra started to propose its cosmetic active ingredients to the global cosmetic industry. It took almost three years, however, to move from the active ingredient identification to actual sale, as the approval and testing process of to these large multinational clients is selective and lengthy.

Once actually entered the cosmetic market, the revenues from sales have driven Arterra turnover from the €1.1-1.2mn range of the period 2007-2012 towards the €3.0mn reported in 2018. Today most of the company revenues are related to R&D services and active ingredients for the cosmetic industry, sold directly to Intercos or to other players via the joint venture Vitalab. The number of employees has risen from eight to more than twenty people, requiring a gradual expansion of Arterra’s facilities to ca 1,300sqm as of today.

Arterra: Main Historical Milestones

Source: Arterra BioScience

2004 2005 2008 2010 2012 2014 2015 2017 2018

Gabriella Colucci founded Arterra

PhylogixPartnership

Isagro S.p.APartnership

Intercos GroupPartnership

2006

Process PatentMultiple

Application

Incorporation of Vitalab, a Joint Venture

with Intercos

Selected by cosmetic companies:ü Chanelü La Prarie

ü Estée Lauderü Kiko

Concept PatentMultiple

Application in Nutraceutical and

AgrochemicalMarkets

FacilityDevelopment

2019

Listing onAIM Italia

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Shareholder structure and Governance The ownership of the company is summarised below and can be divided into three different categories of shareholders:

® Executive Shareholders, i.e. Gabriella Colucci, founder and CEO, who owns the 28.4% of Arterra;

® two Industrial Shareholders, i.e. Isagro Group with a 16.8% stake and Intercos with an 8.8% stake;

® other relevant shareholders, i.e. Paolo Colucci, Arterra’s co-founder and legal consultant with a 7.6% participation; Maarten Chrispeels, a professor at University of California San Diego with a 6.9% holding; other board members 4.6%, free float 26.9%.

The company structure foresees a Board of Directors of five members including Gabriella Colucci as CEO and Chairman, Gualtiero Ioimo as CFO ad interim, and three other directors (one independent).

Shareholder Structure and Board of Directors

Source: Arterra BioScience

The Group structure is very simple, as Arterra Bioscience at the moment does not consolidate other legal entities: it owns a 24.99% stake in the related company Vitalab, active in the cosmetic business, but this is not consolidated.

Vitalab’s Ownership

Source: Arterra’s Management

Board of Directors

GABRIELLA COLUCCICEO & Chairman

GUALTIERO IOIMOCFO & Director

VITTORIO TURINETTIDirector

LUIGI NICOLAISIndependent Director

FABIO APONEDirector

Industrial Shareholders Other Shareholders

Gabriella Colucci28.4%

Executive Shareholders

16.8% 8.8%

Paolo Colucci7.7%

MaartenChrispeels

6.9%Others4.6%

Market26.9%

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Business model Arterra operates through a well-structured business model that allows scalability, efficiency and profitability. The Company’s business model starts with the exploitation of biotechnologies to research and develop new molecules to serve as active ingredients for compounds that find applications in cosmetics, agriculture and nutraceutical. Research is leveraged thanks to competitive and dynamic technologies and the presence of highly skilled workforce: it is funded via research grants, but also research contracts and services. In addition, Arterra has implemented a highly efficient production system, which allows the Company to generate consistent cash flows from the sale of its innovative compounds. Alternatively, Arterra can market its discoveries through a licensing system. The former model (Production model) is fully implemented in the cosmetic industry via a partnership with an industrial partner, the latter has not been implemented yet.

Arterra model(s) to leverage/monetize R&D, or the Recapitulation Theory Since it was founded, Arterra has always been keen in preserving its financial “independence”, constantly achieving positive results, a unique feature in the dedicated R&D firms’ landscape, characterized by forward shifted break-even points. Yet, the Company’s model evolved through time in different phases (see previous sections for more details on history), which can be summarized as:

® Start-up phase (2004-2007) – Revenues are fully dependant on research grants and contracts and in three years reach €1mn in many different sectors / applications;

® Research phase (2008 - 2010) – Revenues range between €1-1.1mn. R&D refocus on cosmetic applications, following the contract with Intercos, but until 2012 the bulk of revenues comes from research contracts and grants;

® Production phase (2011–2019) in cosmetics – Following the initial period spent to get approvals and pass testing processes of the large multinational clients of the cosmetic industry, Arterra started in 2012 to supply its partner Intercos (directly and via the JV Vitalab) with its innovative active ingredients. Turnover went in few years from €1.1mn to ca. €3.0mn (FY2018).

® Diversification phase (from 2020) – in 2019 management started to consider potential entrance in new markets, i.e. nutraceutical/medical devices in primis, agrochemicals to follow.

Revenue stream and composition evolution

Source: Arterra’s management, Value Track assessment

Sales

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Arterra history and gradual development into its current business model somehow mirrors its “production process”: all starts with research, then develops into proprietary research platforms and processes and finally into manufacturing, with revenues streams moving accordingly from R&D grants, then research contracts and services, later also via sales of compounds and active ingredients.

This has been so far focused on one end-market (cosmetics), but in the future it will be applied to other end-markets via the same formula (direct production) or via IP licensing. The two models are described below.

First model: the “Production Model”, i.e. Arterra today At this point the business model that implies production is tested and applied to the cosmetic sector: in 2018 ca. 63% of total turnover came from revenues of active ingredients for the skin care segment to Intercos and Vitalab. In fact, Arterra strategy does not imply a fully integrated business model from development to distribution: Arterra focuses on R&D and on the production of the newly discovered compounds internally, whereas the distribution is carried by the partner.

The cosmetic sector model and the related partnership will be described in full details in the next sections, but these are the three main reasons why Arterra decides for the direct production model:

1. Discoveries have been characterized by very high added value;

2. The expansion of volumes of production brings a material scale effect on costs of raw materials for experiments -as this is a fixed cost component that in 2018 accounted for almost 70% of total cost for raw materials (only the remaining 30% is absorbed by manufacturing) - and therefore it has a positive effect on margins too;

3. Volumes can be reached with attractive profitability, with minor use of outsourcing.

Second model: licensing IP (max scalability) Arterra is willing to develop another business model that should allow the Company to:

® Monetize through a licensing model, predetermining a system of milestones by which Arterra would ensure that the licensee enhances the value of Arterra’s IP. This model has not been applied yet, but it is a valuable option under certain circumstances.

® License out its patents in case of discoveries that would imply lower margins and higher volumes of production, as it might be often the case in the agriculture sector.

The Company already owns several patents suitable to be monetized through this model, when management starts pursuing the diversification strategy more actively or via new partners.

The chart below summarises the differences in the various steps from R&D to revenues under the two different models to reach the end markets.

Internal production and licensing models

Production model

Licensing model


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The first model is tested: all starts with research… Arterra business is organised in two key areas – the research platform and the production activity - and workforce is organized accordingly in two teams, albeit there is full collaboration and a certain flexibility / interchange between the two groups.

Research Team The Research Team is composed of highly skilled scientists among whom 10 hold a PhD in biotech-related fields and 5 are qualified with master’s degrees in biological science. The mixture of knowledge and skills, ranging from insect or plant biology to system biology or genetics allows the Company to leverage know-how into a factory of continuous new ideas.

Technology Team Despite being defined as dedicated biotech R&D firm (investing more than 75% of intra-muros research budget in biotechnology), Arterra can express great production capabilities, carried out by a specialized Technology Team composed of workpeople qualified with chemist diplomas and a varying experience ranging between 1 and 22 years.

…via a successful R&D platform Arterra delivers innovation utilizing “platforms” that screen molecules in order to test their reactions and effects on biological functions (e.g. tissue hydration). This technology allows the Company to utilize one single process to address discoveries to widely varying fields of application, depending on the reactions identified. Indeed, management has developed a well-established R&D model organized on 6 formal stages, as shown below.

R&D formal stages

Source: Arterra’s management

The research process can either start with ideas developed by the Research Team or as a result of grants and research contracts. Concepts undergo a formal process of approval: they are analysed by an internal weekly committee, followed by the presentation to a scientific committee which meets on monthly base. Accepted ideas enter the phase of experimentation and are analysed by a further committee at the presence of external experts –including among others 3 outstanding international experts and meets every two months. After this the concept can enter the development phase.

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…that is profitable also as a standalone unit Arterra R&D activity has always been managed in a very efficient and effective way, reaching positive margins already in 2007, i.e. at its third year of life. While at the beginning Arterra was fully funded via grants provided by the Italian State and Local Authorities, then it gradually secured revenues from research contracts and services with annual revenues in the range of 1-1.2mn and positive margins.

Funding for research and partners


Arterra IP strategy Arterra’s great capability to leverage biotechnologies in order to deliver innovation is entailed in its track-record of scientific achievements. Among them, we highlight the presence of several registered patents in both cosmetics and agricultural fields (even though some of these have not been exploited yet). However, these patents do not fully capture Arterra’s knowledge in research and technology, as the company has been mostly relying on industrial secrecy for strategic discoveries and manufacturing expertise, rather than patents. On the other hand, IP protection decisions are often driven by clients’ requests and can be related to marketing needs too.

Moreover, R&D is leveraged into bio-factories since 2012 Arterra’s business model attractiveness relies on the scalability of processes, achieved thanks to:

® an extremely dynamic R&D technology;

® a technology-based production; meaning that given a certain research activity, an increase in volumes requires an increase in equipment rather than new hires in the Technology Team;

® outstanding yield of raw materials with respect to the finished marketable compound, using:

1. Plant extraction;

2. Plant cells culture;

3. Food by-products.

In terms of volumes, Arterra exploits biotech in order to simply “let the input grow” into the finished compound, with a yield that is highly variable but can reach up to dozens of times the initial weight, as a living organism would do. In particular, plant cell-culture grants indisputable advantages of i) sustainability; ii) standardization; iii) lack of seasonality; iv) safe and clean technology.

Plant cell culture is eco-sustainable, as no land is required to grow the raw material, with consequent savings in terms of water, pesticides, herbicides and by-products. Growing conditions are standardized and provide consistency from batch to batch. There is no seasonal or weather dependence, guaranteeing continuous supply. Furtherly, production is safe and clean, with no contamination of undesired compounds, thanks to microbiological checks after each process step.

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Indicative Raw materials yield: Cell Culture & Plant Extraction/Food by products


Starting from 2012 Arterra started to reckon revenues from sales of active ingredients, now representing two thirds of the Company’s turnover. As of today, the production activity is focused on active ingredients for the cosmetic industry but, given the wide range of technologies used and of potential target applications, Arterra has a lot of room to enter new end markets.

Arterra within the Biotech industry The biotech industry is defined according to a system that assigns different colours to different areas. Among those, Arterra is active in the fields of Green, White and Blue Biotech, which respectively denote agro-food, industrial and marine biotechnology. Furtherly, thanks to the breadth of its research technologies, the Company can continuously exploit potentially useful “side-effects”, which in the past allowed Arterra to find applications even in human health, the Red Biotech.

Biotechnology colour system

Source: Arterra’s management

These areas refer to distinct fields in terms of “research platform”, but the outcomes of the research activity can be used in different fields. An example of how Arterra exploits these cross-synergies is given by the applications for the cosmetics industry: active ingredients for skincare and beauty care products are extracted from microalgae (blue), plant stem cells culture (green) or enzymatic digestion and fermentation (white).

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The cosmetic business The main reference market of Arterra Bioscience is the Cosmetics Ingredients Market as in 2009, the company subscribed an exclusive partnership with Intercos, one of the leading worldwide operators in the creation, development and manufacturing for the make-up and cosmetic industry. From 2010, Arterra and Intercos through Vitalab started also the commercialization of innovative active ingredients to clients other than Intercos.

Arterra growth potential in this industry is high and the partnership with Intercos opened many fruitful contacts with top brands and leading multinationals. However, time to market of these large clients is sometimes extremely long and increase in penetration is very gradual.

Arterra expects to benefit from improving penetration with Intercos and with other clients in coming quarters and plans to widen its client base at global level via Vitalab. We expect revenues in this industry to almost double from FY2018 €1.9mn to €3.5mn by 2021E, including annual research contracts of ca €500k. In addition, from 2021E Arterra should start cashing in regular dividends from the JV, albeit this will also depend on the pricing agreements between Arterra and Vitalab, which materially affect the profitability of the JV.

Arterra main business as of today is cosmetics Cosmetics represent almost 100% of Arterra’s total revenues today, coming from both research contracts and services as well as from sales of compounds. Arterra is still a very small player in absolute and relative terms and therefore the overall growth of the cosmetic industry is not the key driver for the Company, however here below we provide some background information about this sector, representing today Arterra’s main reference market.

The Cosmetic Market Overview The Global Cosmetic market size was valued at around 507.75 USD bn in 2018 and it is estimated to reach 758.45 USD bn by 2025, growing at an annual rate of 5.9% (according to Business Wire). This market is led by several drivers, such as changing lifestyles and rising GDPs of all the regions. APAC leads the cosmetic industry with a market share of 35% in 2018, followed by Europe and North America. The highest market size in Asia Pacific region is attributed to the fact that consumers are relatively beauty conscious.

By looking at cosmetic products, skin care has the highest market share, projected to grow at a CAGR of 4.4% by 2025 thanks to increasing demand in natural, herbal and organic products. Organic skin care product manufacturers focus more on development of newer formulations targeted on the effect of skin-aging, UV protection and makeup products.

For what concern the Global Cosmetic Ingredients market, is expected to growth at a CAGR of 5.3% over the forecasted period 2018-2024, led also by several qualitative drivers in the rising need for skin care products, as

® demand for herbal and natural ingredients,

® search for high quality/efficacy compounds,

® trend for simplified formulations,

® increasing attention for process sustainability.

The Cosmetic Ingredients industry will be split, by 2020, into four main segments, including:

® Specialty Additives, 5.4 USD bn;

® Active Ingredients, 2.9 USD bn;

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® Processing Aids, 4.4 USD bn;

® Other Ingredients, 14.1 USD bn.

Historical Growth Rates of the Global Cosmetics Market 2004-2018

Source: Cosmetic Industry Wordwide 2018 - Statista

A Model developed in partnership Arterra works as a biotech company in the development of innovative active ingredients for cosmetic applications. In its current production model, the company starts with the development of active ingredients by three different inputs:

® Plant Stem Cells;

® Plants Extractions;

® Food by-products.

Once the active ingredient has been selected by a potential client and this passes the order, Arterra plans and starts the manufacturing phase, according to volumes and timing agreed. The production phase is fast, considering that from the raw material the company is able to implement the in-house transformation process easily in his laboratories, reaching successful cases in plant extraction and food by-products. Moreover, depending on the type of application case, Arterra will outsource a small part of the production to Biogem, an Italian scientific research institute, VTT, a Technical Research Centre of Finland that provides research and innovation services as well as a more recent Italian supplier (Demethra Biotech) which started collaboration with Arterra in 3Q 2019.

With regard to the application cases, we can distinguish two ways of production flows, depending on the different inputs:

Arterra’s production flows


3,4% 3,8%

4,9% 5,0%

2,9%

1,0%

4,2% 4,6%4,6%3,8%3,6% 3,9% 4,0%

5,0% 5,5%

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

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The company has virtually no stocks of final products and manufactures only on the back of orders collected, but it has a very limited visibility in terms of future orders and planned production. On the contrary it does not need to worry about transportation timing and charges of delivery, as normally products are collected at Arterra premises.

The distribution phase (B2B) is managed for the cosmetic business by the partner Intercos and is based on the contract concerning the sale of Arterra’s research services and products to Vitalab and Intercos, as well as on the partnership agreement of the joint venture Vitalab.

As shown in the picture below the company sells to a) Intercos, a leading cosmetic manufacturing company (see below for more details); and b) Vitalab, the JV Intercos-Arterra which markets its compounds to third clients, i.e. cosmetic companies (B2C) which may be clients of Intercos or new clients, as well as other B2B players. The final cosmetic clients of Intercos are high-end global brands, the likes of Estee Lauder, La Praire, Eisenberg etc.

Arterra’s Distribution Phase


The partner in cosmetics: the Intercos Group Intercos S.p.A. is one of the largest B2B suppliers in the cosmetics industry. Founded in 1972 by Dario Ferrari, the company is a leading multinational group active in the manufacturing of make-up, skin care and personal care products. Through the years, through organic and external growth, Intercos built a solid commercial network that allows the company to provide its products on a global scale through 13 local sales offices and 11 production facilities.

Intercos Group: Key Figures €mn 2016 2017 2018 9m 2019

Revenues 448.7 590.2 691.6 520.5

% chge 32% 17% 2%

o/w make-up 451.9 435.6 338.1

o/w skincare 78.8 112.1 71.9

o/w hair&body 59.6 143.9 110.5

Raw materials costs 164.6 229.6 282.4

o/w active ingredients (est. @15% of total) Ca 42

o/w from Arterra n.m. 1.5 1.9

R&D costs 32.5 33.4 27.4

o/w from Arterra 0.5 0.5 0.4

EBITDA 84.9 100.5 82.5

EBITDA margin % 14.4% 14.5% 15.8%

Source: Intercos, Value Track Analysis

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Intercos as a customer Intercos is the key element that has propelled fuel for Arterra’s growth, entailing the turning point that allowed Arterra to develop its business model from pure research centre to high value-added bio farm, i.e. a premium active ingredients manufacturer. So far, Intercos has represented the enormous potential market in which Arterra has been growing with no constraints. According to Arterra’s management and to available data, Arterra is estimated to have a material growth potential within the Intercos Group, whose skin care division is still relatively small (14% of Intercos 9m2019 revenues) in a market that is bigger twice the make-up one. In addition, the most recent industry trends suggest a clear move of the make-up world towards “functional products” and this should point to a potentially increasing need of active ingredients by Intercos. Hence, the amount of purchases of actives from Arterra may grow not only in the “hair&body” division (acquired by Intercos in H2 2017) but also in the core business of make-up. The table above provides a broad indication of the penetration of Arterra within the partner Group: of the total €1.9mn revenues to Intercos (FY18), ca €1.6mn was invoiced by Arterra directly to Intercos Spa and its subsidiaries.

Intercos as a partner Arterra and Intercos have established a long-time relationship and in 2010 they created the joint-venture Vitalab (75.01/24.99% owned by Intercos and Arterra respectively, with a free option for Arterra to go to 40% of the JV). Also, Arterra has financial rights and obligations towards the JV equal to 40% (e.g. in terms of dividends as well as in the case of rights issues). The key idea behind the joint venture relies on the innovation continuously delivered by Arterra, in combination with the global commercial network provided by Intercos. Thanks to Intercos, Arterra – through Vitalab - can easily and directly access the global market for cosmetics and elite channels to prestigious skin-care brands. On the other hand, Vitalab allows Intercos to grant a) privileged and relatively cheaper access to innovative active ingredients; b) exclusive access to R&D activity and Intellectual Properties in the cosmetic field; c) direct scientific support during strategic committees with Intercos’ clients. Thanks to a system of royalties and fees, the two parent companies get fair cash inflows from Vitalab. Arterra’s main sources of revenues are the research contracts (around €500k per year) and the revenues as manufacturer of actives to clients other than Intercos (around €290k in 2018, up 68% YoY).

For Intercos its subsidiary Vitalab is still a very marginal business, but the JV benefits from high profitability (Vitalab EBITDA net of R&D capitalized costs is expected to become positive from 2019E with a 44% margin, going to ca. 55% by 2021E - vs ca 15% of the Intercos Group) and we expect it to deliver great results in terms of growth, profitability, cash flow generation and dividends. The table below provides the key figures for the JV: Arterra does not control or consolidate Vitalab, but we expect it to receive ca. €289k of cumulated dividends over 2020-2021E earnings. This will also depend, however, on the pricing agreement with Arterra, as the cost of active compounds materially influences Vitalab trading margins, hence if Arterra were to get higher margins as a compound supplier, it would get less dividends as shareholder.

Vitalab: Key Figures UPDATE

€’000 2017A 2018A 2019E 2020E 2021E

Revenues 849 1,275 1,516 2,297 3,248

OPEX -567 -710 -852 -1,131 -1,473

EBITDA 281 565 664 1,166 1,775

EBITDA margin % 33% 44% 44% 51% 55%

Net Profit -100 38 125 498 943

Net Profit Margin % -12% 3% 8% 22% 29%

o/w to be paid to Arterra (as dividend) 0 0 0 100 189

Source: Vitalab, Value Track Analysis

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Growth strategy (with Intercos) beyond Intercos’ existing clients Arterra aims at increasing its sales through both Vitalab and Intercos, resulting in:

® Increase in sales in the global prestige market;

® Increase in sales in the new independent Green Market;

® Increase in sales for the make-up market;

® Expansion in new countries (India, Brazil, Japan, Malesia and Thailand);

® Increase of multinationals clients through Vitalab.

The company is willing to develop at least 9 new Intellectual Property in the cosmetic industry, over the forecasted period 2019-2021, but the growth expected over this period in terms of sales of active ingredients is related to new compounds already launched and presented to clients, most of which have already received the required code by final clients and therefore can be ordered.

Sales Via Vitalab and Intercos


Arterra provides exclusive R&D and innovative compounds in cosmetics The supply of goods and research services between Arterra, Intercos (and its subsidiaries) and Vitalab (where Arterra owns the 24.99% of share capital), was ruled by an initial contract in 2010, which has been last renewed in 2019 for expiration in late 2023. It implies several conditions, regarding:

® R&D Activity on exclusive basis although limited to the cosmetic sector - Arterra has to develops at least 3 New Raw Materials (NRM) every year, and will receive from Vitalab an annual payment of ca €500k (indexed);

® Production and Supply of New Raw Materials (NRM) on exclusive basis, to be priced on the back of a price list (differentiated for Intercos and Vitalab and potentially subject to a 5% annual increase for the latter);

® Reporting activity;

® Personalized R&D and research services to be priced ad hoc.

On the other side, Vitalab has an exclusive purchasing obligation to Arterra R&D, even if it is free to perform its own R&D activity internally and, as for the NRM supply, Arterra has only the right of first refusal on both Vitalab and Intercos.

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For what concerns the industrial property rights on NRM, all of them will be own exclusively by Vitalab, including patented NRM named "Cellintegrity" and "Lycoskin" of which Arterra and CRB had joint ownership. Arterra grants Vitalab an exclusive license for the worldwide economic exploitation of all industrial property rights of NRM Bio Nymph (which remains property of Arterra) against a royalty initially equal to 5% of the net sales turnover until Dec. 2015, 3% until Dec 2018 and 0.1% for the following period. This license lasts 5 years, with automatic renewal.

In the event that Mrs Colucci and Mr. Apone cease their collaboration with Arterra or the company is not able to fulfil its obligation, Vitalab and Intercos will have the right to conclude the agreement with immediate effect.

Agreements rule the partnership with Intercos since 2010 Vitalab was established in 2010, as a joint venture between Arterra Bioscience S.r.l., and CRB S.A., a Swiss Biocosmetic research centre, 100% owned by Intercos Spa.

The Shareholder Agreement between Arterra Bioscience, CRB, Intercos (as guarantor) and Mrs Colucci (because of her key role) - fully renewed in 2014 - implies that Vitalab shareholders are:

® Arterra with 24.99% of participations and the 40% of profits (as long as it holds a participation in the share capital between 24% and 40%);

® CRB with the 75.01% of shares, and 60% of profits.

Vitalab mainly carries out activity of:

® R&D of new raw materials (NRM) for itself and third parties;

® Supply of NRM to third parties;

® Provision of scientific reports about NRM;

® Provision of other scientific advisory services.

The agreement rules the following elements

i) the activity carried out by Mrs Colucci in Vitalab as CEO and board member;

ii) the distribution of profits, i.e. the distribution of an annual dividend of not less than 50% of the profits achieved;

iii) the Board of Directors of Vitalab, that will be composed by five members: 3 members, including the Chairman, designed by CRB and 2 members, including the CEO, designed by Arterra;

iv) the BoD powers and exceptions;

v) no competition commitment from Arterra;

vi) the payment of certain services to the two partners (up to 25k annual charge for general services to Arterra and 5% of marketing fees to Intercos on revenues from its clients);

vii) the maturity of the agreement, i.e. 5 years from signing, with an automatic renewal of other five years, i.e. being renewed in 2019 it will expire in Feb 2024.

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Next steps: nutraceutical and agro Arterra has always been managing its research activity with a cross-sector and cross technology approach. As a consequence, the outcomes of this activity could enable the Company to enter various end markets, also very far from cosmetics. Arterra management plans to exploit this potential and gradual diversify its model and revenues stream to new sectors, following a business model similar to cosmetics (i.e. via a production model and one or more partnerships to leverage on partners’ distribution capacity for example) or a lighter and more scalable model based on IP management.

In our 2019-2021E forecasts the financial impact of the Company diversification strategy is very marginal, as we expect it to deploy its effects in the longer term. At the end of this section we provide some broad indications of potential revenues flows from new sectors in five years’ time, with total additional revenues around €1.5mn (2023E). However, speed and impact of these new areas of business will also depend upon management capacity in closing effective and timely partnerships and on resources (people) invested.

The next #1: the nutraceutical industry (in the pipeline) As discussed above today the Company is still fully focused on cosmetics in its manufacturing activity. However, the R&D division has always been working on a wide spectrum of potential applications and management now plans to diversify into new potential end markets. The current research grants already allow the research team to start focusing on nutraceuticals and this seems to be the closest potential step into this direction.

Nutraceutical market Nutraceutical market consists of products that provide health and enhance value of nutrition, providing nutrient in form of supplements, functional foods or beverages. Examples of functional foods and beverages are pro-biotic yogurts and sport drinks, while supplements range from multivitamin tablets to protein powders. Nutraceutical players are often involved also in the medical devices segments, given strong synergies in terms of production, promotion and distribution (pharmacy channel).

Biotechnology finds applications in nutraceuticals allowing manufacturers to overcome problems related to seasonality, scarcity and sustainability. A typical example involves the employment of algae or algae-like microorganisms grew in laboratories that produce omega3 supplements, in order to substitute mass-scale fisheries.

The global market for nutraceuticals is expected to register a 7.5% CAGR between 2019-2024E (source: Mordor Intelligence), reaching a value of 671.3 USD bn.

Go to market model The market is highly segmented from a geographical point of view, as local traditions deeply influence nutrition habits and the Italian industry is very fragmented, with many small players and only a few larger names.

Management has not selected the preferred model to follow in this sector, but a model similar to cosmetics is likely (i.e. direct production), given the high value added of many applications in this industry. If this is the case, Arterra needs to find one or more partners to develop this market opportunity.

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The next #2: the agroindustry business (a further option) Biotechnology finds continuous new applications in agriculture, allowing farmers to grow more food on less land using environmentally sustainable techniques. In particular, active ingredients discovered using biotechnology:

® Increase crop yield per seed and nutritional facts;

® Improve resistance to insect pests and diseases;

® Promote soil conservation.

Biotechnology not only is gaining importance with respect to traditional farming technologies, but it’s becoming essential, to some extent, as global agricultural market is facing sustainability issues in terms of land scarcity, soil deterioration and pollution and increasing pests’ resistance.

Development of new applications of biotech in agriculture is driven by:

1. Organic food industry expansion;

2. Increased awareness among farmers about benefits, especially in developing countries;

3. Increasing adoption of sustainable farming methods.

Arterra is currently active in the development of active ingredients for Bio-stimulants, Bio-pesticides, and it may soon expand its applications towards food-preservatives.

® Bio-stimulants market (USD 2.2bn in 2018)

Bio-stimulants act as soil microflora enhancer in order to promote the uptake of nutrients from the soil to the crop. Bio-stimulants are conceptually associated to organic farming positive trend, which is currently undergoing a healthy progress, as it is perceived as a response to consumers’ demand for ‘softer’ and ‘healthier’ practices. Bio-stimulants global market is expected to register a 12.5% CAGR between 2019-2024E (source: Mordor Intelligence).

® Bio-pesticides market (USD 3.1bn in 2018)

In bio-pesticides, the chemical active ingredient is replaced with natural constituents such as bacteria, fungi and viruses. As in the case of bio-stimulants, bio-pesticides are associated to organic farming, health trends and eco-sustainability. Bio-pesticides market is expected to register a 14.1% CAGR between 2019-2024E (source: Mordor Intelligence).

® Food preservatives (USD 2.6bn in 2018)

The global demand for natural food preservatives is growing, supported by demand for bio and organic products and by the increasing awareness of side effects of synthetic preservatives. The overall global food preservative market is expected to register a 2.7% CAGR between 2019-2024E (source: Mordor Intelligence).

Go to market model Given this industry is characterized by high volumes and low unitary prices, we believe that Arterra would be likely to follow the IP model, should it enter the agrochemical market. However, we believe this may take a few years to reach the market and to start impacting the company top line, hence we do not have any contribution from this sector over the 2019-2021 period yet.

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A look beyond 2021E, new markets and new applications We are relatively cautious on the short-term impact of Arterra diversification strategy, but we expect the Company to experience steady top line growth after 2021E supported by the entry into new markets, as Nutraceutics and (bio)Agriculture.

We expect sales of active ingredients to the market for Nutraceutics to start modest contribution to sales by 2021E, followed by rapid growth to ca. €1mn in 2023E. Agricultural applications should generate ca. €500k in 2023E. In five years down the road the cumulated revenues from the new potential sectors could be in the range of €1.5mn (2023E), assuming a direct sales model. Should Arterra go for an IP model, additional revenues would be much lower but would fully pour into margins.

Arterra: forecasted 5yrr Sales growth dynamics and composition

Sales est. growth and composition (€mn)

Estimated sales breakdown 2023E (%)


1.9

3.5

5.0

0.2

1.0 0.5

0.0 2.0 4.0 6.0 8.0

2018A

2021E

2023E

€ m

n

Cosmetics Nutraceutics Others (Agro, other..)

Cosmetics77%

Nutraceutics 15%

Others (Agro, other..)

8%

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Historical Financials Arterra has managed to face a booming demand over the past three years without margin dilution and keeping net financial position under control. Top line recorded a 16% CAGR in the 2015-2018 period, EBITDA margins improved from 27% to 38% and net profit by 5x (albeit 2018 results benefitted from an extraordinarily low tax rate) – all under Italian GAAP.

Some volatility of margins has been caused by the strengthening of the personnel structure, required by the strong increase in production and recording a growth “by steps”, given the small size of the business and the limited number of employees. However, the business has witnessed attractive returns with RoCE around 50% and annual capex/sales in the range of 5-15%. Finally, it should be noted that so far, the JV Vitalab has not provided any direct contribution to Arterra P&L or Cash Flow (other than the annual revenues for research services and active ingredients and a small fee to cover the general services provided to Vitalab).

As for 2019 the interim results have been very strong (9m revenues up 39% y/y), but we would warn that momentum is expected to weaken into Q4 and that in general Arterra cosmetic business tends to be quite volatile and highly unpredictable.

Revenues structure and evolution Arterra generates consistent Revenues via two channels:

® Sales of active ingredients (63% of FY2018 Revenues), by which the Company serves - on a global scale - customers active in the manufacturing of cosmetic products;

® Research (37% of FY2018 Revenues), which generates cash inflows in form of Grants, Research Contracts and Research Services.

Arterra’s Revenues have been growing since FY2013 at a fast-paced 16.5% 5yy CAGR, reaching ca. €3.0mn in FY2018. This great performance was primarily driven by two factors:

1. the evolution of the business model from a mere small research centre to an actual bio-factory capable of serving premium products with outstanding opportunities in terms of scalability and profitability;

2. the partnership with Intercos, which allowed Arterra to exploit a well established global commercial network and provided fuel for fast growth in terms of volumes of production.

We highlight that there was only one year when Arterra reported decreasing revenues and this slowdown (occurred in FY2016) was partially due to the resolution of a research contract with Isagro S.p.A. and partially due to the shift of a grant.

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Arterra: FY2016-FY18 Revenues breakdown evolution

Source: Arterra, Value Track Analysis.

(*)Revenues breakdown for 2016 estimated by Value Track

In FY2018, Intercos provided ca. €1.6mn in revenues from sales, equal to 53% of Arterra’s total Revenue and Vitalab allowed the Company to generate ca. €290k in sales, or 9.8% of total Revenue, setting a remarkable 68% YoY growth, in line with management expectations to thrust towards their subsidiary for the commercialization of products. Now revenues from sales represent the bulk of Arterra turnover.

In addition, the Company receives from Vitalab an annual payment of ca. €500K (this amount is adjusted by inflation on yearly base), equal to 16.9% of total revenues in FY2018, as indicated by the terms of the R&D contract stipulated by the two parts.

Given the exclusive partnership with the Intercos Group, this represents virtually 100% of Arterra revenues in the cosmetic industry.

In addition, Arterra’s outstanding performance in terms of R&D allows the Company to consistently secure funds in form of grants by public institutions (Regione Campania, MISE and MIUR, the EU) and as R&D tax credits, which – combined - in 2018 accounted for €532K, or 18% of Revenues.

Arterra: FY2018 Revenues composition (€’mn0)

Revenues composition (total €2.98mn)

Sales breakdown (63% of Revenues)


0.961.50

1.870.24

0.63

0.53

0.49

0.50.5

0.20

0.120.08

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

2016* 2017 2018€m

n

Sales Grants & fiscal benefits Research contracts Services and others

Sales; 1.868; 63%

Grants & fiscal benefits;

0.532; 18%

Research contracts;

0.503; 17%

Services; 0.056; 2% Other (incl. Δ inv.);

0.019; 0%

Cell culture;

1.42; 76%

Plant extraction;

0.295; 16%

Food by products; 0.102; 5%

Microalgae; 0.052;

3%

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Cost structure and evolution Arterra’s total operating cost structure (excl. D&A) in FY2018 stood at ca. €1.8mn (+16% YoY), or roughly 62% of Revenues. The Company has a flexible manufacturing model that allows an efficient scalability of production. However, even though the Company already provides outstanding numbers in terms of profitability (38% EBITDA margin in FY 2018), the cost structure is still influenced by the presence of fixed costs that could be diluted with greater volumes. In fact,

® 2/3 of raw materials in FY2018 were purchased for research purposes, while only the remaining 1/3 was used in production;

® Increasing volumes have a negligible effect on labour costs (within certain limits, of course), as production is primarily based on technology - and capex has low requirements, too.

Raw materials Arterra industrial strength relies on the outstanding capability to transform raw materials into high-added value active ingredients. In FY2018, Arterra spent €259K on raw materials, or roughly 14% of operating costs (excl. D&A), in line with historical numbers.

With reference to FY2018 purchases, ca 26% of raw material costs were represented by two compounds outsourced to VTT (24% of total purchase cost) and to a lower extent to BIOGEM (2%), functional to the production of Arterra’s active ingredients. The remaining 74% is made of raw materials that are mostly utilized in research activities. The current mix suggests that the Company should be capable of expanding its production increasing marginal profitability with respect to raw materials.

Raw materials breakdown FY2018


Labour cost Arterra’s labour costs accounted for €819K in FY2018 (+15% YoY), or ca. 46% of total op. costs excl. D&A, again in line with historical trends. The Company has a workforce composed of 28 professionals as of Q4 2019, after hiring 8 new employees (6 researchers and 2 technician) to face the growth expected in coming quarters and the diversification in product development.

As anticipated, Arterra takes advantage of its geographical position in terms of average cost of labour: it is based and operates in Naples, which – given the relatively lower costs of living, compared to other Italian and European cities – can benefit from relatively low cost of labour for highly skilled people and from fiscal benefits for local employers (e.g. the Government provides the first 2 years of social security contribution to newly hired employees).

Generic raw materials,

74%

VTT, 24% BIOGEM, 2%

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Labour cost details

€ ’000 FY2017 FY2018

Administration 62 101

Number of employees (#) 2 3

Research team 453 491


Technology team 198 227


Subtotal labour costs 712 819

Other employee costs 24 28

Total labour costs (€ ’000) 736 847

As a % of Revenues 26.8% 28.4% Total number of employees (#, at year end) 17 20

Source: Arterra, Value Track analysis

Over the last three years, EBITDA margin increased from ca. 23% in FY 2016 to ca. 38% in FY2018. This is mainly due to the scale effect linked to growth: the progressive dilution of fixed and general costs (raw materials and labour costs related to research activities) over growing volumes of sales.

We note that in FY2017, as a result of hiking Revenues and stable Operating Expenses, EBITDA margin reached 43%: a proof of how profitable Arterra’s production model can be. On the contrary in FY2018, profitability was contained by rising Operating Costs attributable to research activities (read hiring and training), as the Company intends to maintain a solid R&D foundation in order to secure long-term competitiveness. This growth of costs “by steps”, due to required increase in capacity and corporate structure, is particularly visible given the small size of the business and the limited number of employees and is expected to remain a feature of Arterra over the next years, limiting the benefits of the scale effect due to growth.

From EBITDA to Net Profit Given the low capital intensity of the business (R&D costs are all expensed) Arterra EBIT margins are very close to EBITDA. In FY2016, however, a €100k impairment - due to the uncertainty over a Grant due by the Italian Minister for University and Research - almost doubled D&A and depressed EBIT margin. That Grant should now be cashed by end of FY2019, generating no further losses and potentially also a marginal windfall profit.

Low debt and favourable tax rates supported bottom line quite close to EBIT levels.

Tax Rate is positively affected by fiscal benefits granted to innovative and “clean” firms:

1. The Company can benefit from R&D tax credits, ascribed as Other Revenues and fully deductible; in FY2018, the Company registered a tax credit of €98K;

2. Arterra adheres to the so called “Patent Box”, i.e. facilitated taxation on additional profits generated by innovative activities. In FY2018, Arterra enjoyed in one lump the benefits accumulated over 4 years (FY2015-2018) and hence the 2018 impact was somehow extraordinary. However, we expect the Company to continue to benefit from the Patent Box in years to come.

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Arterra: Profitability from Revenues to Net Profit

€’000 FY2016 FY2017 FY2018

Revenues 1,890 2,745 2,978

Raw Materials -208 -210 -259

Cost of Labour -652 -736 -847

Other OPEX (services, others) -602 -632 -732

EBITDA 428 1,167 1,140

As a % of Revenues 23% 43% 38%

EBIT 188 1,024 1,067


Pre-Tax Profit 184 1,017 1,073

Taxes -57 -272 -29

Tax Rate 31% 27% 3%

Net Profit 127 745 1,044



Balance Sheet analysis Arterra’s Capital Employed in FY2018 stood at ca. €2.4mn, i.e. ca. 80% of Revenues, mostly due to a particularly high Net Working Capital of roughly €1.9mn, i.e. 63% of Revenues. We expect this to reduce already in FY2019, as credits for Grants due for R&D projects – in particular from the Minister of Economic Development (MISE) and Minister for Education, University and Research (MIUR) for a total amount of ca. €1.1mn - are cashed in and these credits go back to normalised levels.

Arterra: Balance Sheet structure

€’000 FY2016 FY2017 FY2018

Net Working Capital 1,153 1,711 1,888


Net Fixed Assets 777 675 1127

Provisions (incl. TFR) 510 628 631

Total Capital Employed 1,420 1,757 2,384


Shareholders’ Equity 1,020 1,715 2,559

Net Fin. Position [Net Debt (-) Cash (+)] -400 -42 175


Net financial position Arterra has historically carried out its activities with a conservative approach, relying primarily on its own internal sources, e.g. retained earnings, with little to no use of debt (mainly facilitated loans, part of grants). Over the last three years, the Net Financial Position improved from a Net Debt position of €400K in FY2016, to a Net Cash position of €175K in FY2018, thanks to the cash generation provided by operating activities.

Net Financial Position includes a financial credit towards Vitalab of €340K, with maturity in FY2019. By terms of the joint-venture agreement between Arterra and Intercos relative to Vitalab, the two parent Companies must provide financial resources to the latter until it becomes financially

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independent. The credit reimbursement has lately been renewed, and it is expected to be reimbursed by 2020E, in the light of the improved financials of the joint venture.

Cash conversion cycle In FY2018, Arterra showed a well-disciplined cash conversion cycle of roughly 15 days (5 in FY2017), that moves to 47 days including trade credits to Vitalab. It is entailed by:

1. Average days of payables outstanding of 95 days (70 in FY2017);

2. Average days of inventories on hand equal of 33 (35 in FY2017);

3. Average days of receivables equal to 77 (40 in FY2017), or 109 including Vitalab’s trade receivables; which should gradually normalise, as explained above.

These data do not include the large amount of receivables accrued for grants from MIUR, which we see as normalised by year end. With this in mind, the Company’s low DIH shows the effectiveness of Arterra’s lean production, extremely appreciable for a Company that has intention of expanding its activities towards fast-moving markets such as APAC.

Cash Flow Statement In order to provide fuel for growth, in FY2018 Arterra’s Capex grew to €536K (from €50K in FY2017), of which:

1. €355K for the purchase of a new property;

2. €92K investment in equipment;

3. €89K of intangible Capex for the development of a new software for the digitalization of the production process (to be delivered in FY2019)

In FY2018 Arterra converted ca. 38% of EBITDA in Operating FCF, a lower level compared to the previous year (87%) as a result of greater Capex. However, we highlight that these investments are necessary for Arterra’s rapid climb and are supported by the immediate response in terms of revenues.

Arterra: Cash Flow Statement

€’000 FY2017 FY2018

EBITDA 1,167 1140

Working Capital requirements -219 -176

Capex -51 -536

Change in provisions 119 3

OpFCF before taxes 1,016 431

As a % of EBITDA 87% 37.8%

Cash Taxes -272 -29

OpFCF after taxes 744 402

Capital Injections 0 0

Other Op. Items (incl. Financial Inv.) 0 9.4

CF available to serve debt /equity investors 744 411

Net Financial Charges 3 6

Dividends paid -50 -200

Net Cash generated 697 217


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Interim Results 1H19 financials are the latest set of figures that have been approved and released from top line down to bottom one, while 9m19 figures have been disclosed only referring to top line and net debt. Both were positive and show top line growth, mainly driven by cosmetics sales (i.e. +62/46% y/y in 1H/9m) as well as a strict control of Net Working Capital and good cash generation. In details:

® Value of Production grew to 1.8mn +39.7% YoY. Such a positive trend was confirmed at 30 September 2019 amounting to ca. €2.5mn + 39.3% YoY;

® Sales faced marked volatility in the quarters (+46% y/y over 9m but +11% y/y in the 3Q alone);

® 1H19 Gross Profit grew more than proportionally, and even more the case was for EBITDA and EBIT over 1H;

® 1H19 Gross margin, EBITDA margin and EBIT margin (both measured on Value of Production) achieved 71.8%, 39.6% and 37.0% levels respectively, all strongly up YoY;

® Net Cash improved at €949k at the end of June, vs. €175k as of 2018 year-end, and was still around the same level at the end of September.

Arterra: Key Figures 1H2019 and 9m2019 €’000 H1 2018 H1 2019 YoY change 9m 2019 YoY change

Volumes (kg) 3,035 4,917 +62% ca. 6,690 +51%

Avg price (€/kg) 258 258 ca. 250

Sales 784 1,269 62% ca. 1,600 46%

Revenues (VoP) 1,340 1,873 40% ca. 2,500 39%

Gross Profit 954 1,345 41%

Gross margin (%) 71,2% 71,8%

EBITDA 442 742 68%

EBITDA margin (%) 33,0% 39,6%

EBIT 410 694 69%

EBIT margin (%) 30,6% 37,0%

Pre-tax result 414 697 68%

Net profit 344 582 110%

NWC (Dec for 2018) 1,888 1,003

Net Financial Position (Dec for 2018) 175 949 ca. 900

Source: Arterra, Value Track Analysis.

The main take always of the interim results above are the following:

® Arterra top line and cosmetic sales in particular are very volatile, due to the features of Arterra products (specialties, tailor made compounds), the presence of large “single orders” and the tiny size of the overall business.

® The chart below shows the trend of quarterly orders in volumes that are a very good proxy of sales, given the negligible amount of finished product inventories. The trend underlines that quarterly sales record very volatile growth rates, ranging from flattish or negative momentum to quarters with volumes more than doubling.

® Expectations for 4Q are very cautious, as it will be for 1Q, as volumes will compare to extremely strong quarters and record production level.

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Arterra: Quarterly Orders in Kg (2014-2019)


0

500

1000

1500

2000

2500

3000

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3QE2014 2015 2016 2017 2018 2019

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Forecasts 2019E-21E Our 2019E-21E forecasts incorporate the financial impact of the recent IPO (i.e. cash proceeds, IPO costs and capitalization) but do not assume the proceeds to be fully invested over the next 24 months either in the cosmetic or in new businesses. Our scenario incorporates in particular for 2019E and 2020E the heavier cost structure and the €1.9m capex by 2021 to double the production capacity. Also, we factor a very weak Q4 2019, due to the tough y/y comparison, but also following the limited marketing activity by Mrs Gabriella Carlucci during Q2 and Q3, when she has been absorbed by the IPO process.

Given the assumptions above, over 2019E-21E we expect Arterra to generate revenues growing at ca. 18% 3yy CAGR, with EBITDA margin back to ca. 39% by 2021E, as a result of improving dilution of raw materials and labour costs in R&D and in corporate team, following the rise in volumes sold. EBITDA and pre-tax result should witness a 19% and 15% CAGR respectively into 2021E, while adj. net profit growth is limited to 8% because of a normalizing tax rate from the negligible 3% FY2018 rate. On the other hand we acknowledge that FY2019 results will witness a much lower momentum compared to nine month results (Revenues +15% y/y vs +39% as of September).

In short, we assume Arterra’s cash flow generation to support sizable investments in capacity (capital invested in fixed assets to triple by 2021E), while maintaining the Company in Net Cash Position and an average 25% pay-out, assuming no M&A activity is undertaken.

As far as 2019E-21E financial forecasts are concerned, we note the following assumptions:

® We assume the company capitalizes its ca. €0.78mn IPO costs starting as of 4Q2019;

® Forecasts are based on a stand-alone scenario, i.e. no financial impact from future M&A is considered:

® Accounting is Italian GAAP based and as for the potential effect of IAS17 introduction (leasing accounting) management has indicated i) a negative impact on cash position around €200k in FY2019E, becoming almost negligible by 2021E, and ii) negligible effect on margins.

2019E-21E estimates at a glance Arterra is still a small sized company operating with an extremely competitive technology in a large and fast-growing market. We expect the combination of these factors to propel fuel for an irruptive double-digit growth in the mid-term.

We forecast marginality to reduce over 2019-20E due to the “step growth” of costs and then to start improving, with considerable potential over the medium term. We assume EBITDA to reach 39% margin in 2021E (still below 2017) thanks to an optimization of OPEX, mainly regarding greater absorption of fixed costs generated by larger teams in corporate and research activities, R&D raw materials and improving volumes per employee in compound production.

Margins at EBIT level and bottom line are also affected by the amortization of the IPO costs, all capitalized and amortized over a 5 year period starting from FY2019. We also report EBIT and net profit adjusted for these amortization charges (€156k per year).

Despite heavy investments in output capacity we forecast Arterra to maintain a Net Cash Position throughout our entire forecasted period.

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Arterra: Income Statement projection 2018A-21E

€’000 2018A 2019E 2020E 2021E

Revenues 2,978 3,431 4,081 4,931

OPEX 1,838 2,215 2,668 3,007

EBITDA 1,140 1,216 1,413 1,924

EBITDA margin (%) 38% 35% 35% 39%

D&A -73 -298 -355 -414

EBIT Adj. 1,067 1,074 1,214 1,667

EBIT margin Adj. (%) 36% 31% 30% 34%

Net Profit Adj. 1,044 932 926 1,313

Source: Arterra (historical figures), Value Track (forecasts)

Arterra: Balance Sheet projections 2018A-21E

€'000 2018A 2019E 2020E 2021E

Net Working Capital 1,888 1,593 1,766 2,117

Net Fixed Assets 1,127 2,305 2,541 2,752

Provisions 631 743 872 906

Total Capital Employed 2,384 3,155 3,436 3,963

Group Net Equity 2,559 7,081 7,663 8,633

NFP [i.e. Net Debt (-) Cash (+)] 175 3,926 4,227 4,671


Top-line Overall, we forecast Arterra’s Revenues to grow at ca. 18% CAGR between 2018A-21E, from ca. €3mn generated in FY2018 to ca. €4.9mn forecasted by 2021E.

In particular, we expect Revenues from Sales to grow at a 25% CAGR between 2018A-21E, reaching ca. €3.7mn in 2021E.

The remaining Revenue streams, generated by research activities, are set to reduce their relative weight with respect to Sales, as we expect low single digit annual growth rates here. In 2021E, Sales and Research are expected to account for respectively 74% and 26% of Revenues (63% and 37% in FY2018).

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Arterra: overall Revenues projection


Volumes and average pricing Arterra is set to continue its shift towards its “manufacturing” business model. As previously mentioned, the Company can achieve outstanding profitability numbers increasing its volumes of production and generating an immediate return on its investments in capacity.

We measure Arterra’s volumes in tons (or thousands of Kg) of output sold. In FY2018, Arterra sold active ingredients to the cosmetics industry for a total of ca. 7 tons. We expect Arterra to increase volumes to ca. 15.5 tons in 2021E, representing almost a 2.2x increase with respect to FY2018. This requires an annual average increase in the range of 30%, with a slower growth expected in FY2019 (+24% YoY), due to a weak 4Q following a growth in excess of 60% in first half and an estimated growth rate of 25% in 3Q.

Volumes are the main driver of top line growth over the forecasted period, as we assume an increase of average prices of less than 1% per year. Moreover, the faster growth of revenues to Vitalab compared to Intercos causes a reduction of the average price/kg of compounds, all the rest being equal, due to the current different pricing of the two channels.

Arterra Top-line drivers (2018-2021)

€'000 2018A 2019E 2020E 2021E

Total Volumes, kg 7,142 8,885 11,734 15,467

Avg. price €/kg 262 245 240 237

Total Sales 1,868 2,177 2,821 3,659

Grants & fiscal benefits 532 698 698 704

Research contracts 503 507 512 517

Services 56 25 25 26

Other (incl. change in inventories) 19 24 25 25

Total Revenues (VoP) 2,978 3,431 4,081 4,931


3.0 3.44.1

4.98%

15%

19%21%

0%

5%

10%

15%

20%

25%

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2018 2019E 2020E 2021E

VoP VoP growth (%)

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Cost structure Given Arterra’s current cost structure, we believe the Company should be able to improve considerably its margins due to the scale effect. However, as anticipated we also assume management to invest a lot over the next quarters also in terms of structure and people, both in R&D, production and in the corporate functions. This effort will temporary offset the scale effect on margins but it is crucial.

Raw Materials We project Raw Materials costs splitting between the absorption generated by research activities (testing, platforms) and by production of compounds for industrial applications. In FY2018 2/3 of Raw Materials purchases were referred to research activities. Therefore, the forecasted hike in Sales is expected to have a considerable dilutive effect on total cost for Raw Materials, as illustrated below.

Arterra: Raw Materials forecast breakdown

€'000 2018A 2019E 2020E 2021E

Tests and research -173 -181 -190 -200

Active ingredients production -86 -109 -141 -183

Total Raw Material consumption -259 -290 -331 -383

As a % of Revenues 8.7% 8.5% 8.1% 7.8%


Labour Costs Major improvements are set to be experienced thanks to Arterra’s capacity with respect to its labour force. Arterra’s production highly relies on technological processes that can be automatized as volumes increase, allowing major improvements of profitability as result of labour costs dilution.

Considering Arterra’s current workforce (including 8 new hires in FY2019E), the Company should be able to reach more than 2x its current volumes of production in 2021E, still leaving great room for further expansion within the following years. Furtherly, given the growth of organizational complexity, we expect the hiring of a few managers, responsible for Business Development, Logistics and Key Accounts by the end of 2020E. Overall, we expect headcounts to grow by ca 50% by the end of the forecast period.

Arterra: Labour costs forecast breakdown

€'000 2018A 2019E 2020E 2021E

Administration -101 -103 -300 -305

Number of employees 3 3 6 6

Research Team -491 -648 -708 -770


Technology Team -227 -362 -434 -441


Volumes (Kg) / Tech. employee 1026 910 986 1251

Subtotal labour cost -819 -1112 -1442 -1515

Other labour costs -28 -36 -47 -49

Total labour costs -847 -1149 -1489 -1565

Total number of employees 20 27 33 34


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Balance Sheet projection We expect Arterra’s Capital Invested to reach ca. €3.9mn in 2021E, resulting from:

® Ca. €2.7mn in Net Fixed Assets, as a result of heavier investments needed to support growth and also to the capitalization of the IPO costs;

® Ca. €2.1mn worth of Net Working Capital (43% of revenues, or 36% excluding the R&D Grants);

® Ca. €0.9mn resulting from provisions.

Arterra: Net Working Capital projection


Fixed assets We project Arterra’s fixed assets taking into consideration the development needed for the Company to support the climbing volumes. Arterra’s scalability in terms of production allows the Company to express additional sales equal to more than 6x its investments in equipment. Overall, we estimate that the Company needs to maintain a capital turnover (in terms of PP&E / Revenues) around 30-35% in the forecast period (well above the 10-20% of 2016-2018), decreasing to 25% in the longer run.

Cash generation We expect Arterra’s cash generation to allow the Company to maintain a positive Net Cash Position throughout our forecasted period, highlighting that the Company is expected to cash-in most of a massive €1.1mn worth of Grants (cumulated over a few years) in 2019E, while in the following years cash generation is reliant on cash earnings related to sales. Furthermore, Net Financial position benefits from the €3.2mn net IPO proceeds, which lead to €3.9mn Net Cash in 2019E.

0.6 0.7 0.7 0.80.3 0.3 0.3 0.4

1.7 1.3 1.51.7

-0.3 -0.3 -0.3 -0.3-0.4 -0.4 -0.5 -0.5

63%

46% 43%43%

0%

10%

20%

30%

40%

50%

60%

70%

-1.0-0.50.00.51.01.52.02.53.03.5

2018 2019E 2020E 2021E

€mn

A/R InventoriesOther current assets A/POther current liabilities NWC as % of Revenues

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Arterra: Net Cash Position evolution


Overall, in our 2019E-21E forecasted period, we expect Arterra to generate cumulative Operating Free Cash Flows (before taxes) worth ca €2.7mn, resulting in an average 60% EBITDA conversion ratio (all excluding IPO costs).

We also assume the company to maintain a relatively generous pay-out, in the range of 25%.

Arterra: Cash Flow Statement 2018A-21E

€'000 2018A 2019E 2020E 2021E

EBITDA 1,140 1,216 1,413 1,924

As a % of Sales 38% 35% 35% 39%

Op. WC requirements -176 295 -174 -350

Capex (incl. IPO cost capitalized) -536 -1,477 -591 -624

Change in provisions 3 112 129 34

OpFCF b.t. 431 146 777 984

As a % of EBITDA 38% 12% 55% 51%

Cash Taxes -29 -104 -260 -415

OpFCF a.t. 402 42 517 568

As a % of EBITDA 35% 3% 37% 30%

Capital Injection 0 4,000 0 0

Other and div from Vitalab 9 1 0 100

CF available to serve debt / equity investors 411 4,015 520 661

Net Financial Charges 6 8 18 7

Dividend paid -200 -300 -233 -232

Change in Net Fin Position 217 3,751 302 443


0.22

3.72

0.30 0.43

0.00.51.01.52.02.53.03.54.04.55.0

2018 2019E 2020E 2021E

Net Cash Position Change in Net Cash Position

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Valuation

We base our valuation process on both Discounted Cash Flow Model (DCF) and Peers Analysis. This analysis leads us to a fair Equity Value of €4.2 per share.

The table below offers the implied trading multiples of the stock, based on our forecasts and assumptions, in a range between the IPO price and the trading range since floatation.

Arterra: Trading multiples at different stock prices (€2.6 -€5.0 range)

Price EV/Sales (x) EV/EBITDA (x) P/E (x)

Per share 2019E 2020E 2021E 2019E 2020E 2021E 2019E 2020E 2021E

€ 2.6 2.8 2.2 1.8 7.8 6.5 4.5 18.2 18.4 13.0

€ 3.0 3.5 2.9 2.3 9.9 8.3 5.9 21.1 21.2 15.0

€ 3.4 4.3 3.5 2.8 12.1 10.2 7.2 23.9 24.0 16.9

€ 3.8 5.0 4.2 3.4 14.2 12.0 8.6 26.7 26.8 18.9

€ 4.2 5.8 4.8 3.9 16.4 13.9 10.0 29.5 29.7 20.9

€ 4.6 6.6 5.4 4.4 18.5 15.7 11.3 32.3 32.5 22.9

€ 5.0 7.3 6.1 4.9 20.7 17.6 12.7 35.1 35.3 24.9


Discounted Cash Flow Considering Arterra’s cash generation capability, we believe that DCF Model represents an accurate valuation criterion. Nevertheless, DCF based on our forecasts probably does not factor the full potential for further developments of the Company, i.e. the “optionality” that may emerge if management decided to undertake heavier investments in production capacity to chase further growth in cosmetics or in new sectors. Management can already rely on a cash pile that is equal to the current fixed capital of the Company, and may even decide to reduce pay-out (compared to our assumptions) to accelerate future growth plans. All this is not captured either in our forecasts or DCF model, as we assume the company to keep piling cash and paying out 25% of its earnings.

Our DCF model gives a fair valuation of €4.1 per share and here below follow all the key assumptions behind it.

Arterra’s stake in Vitalab Arterra has a 24.99% stake in Vitalab and an option to take over an additional 15.01% (overall potential holding: 40%). In our DCF model, we consider both the 24.99% stake and the option as peripheral assets, added to Arterra’s Enterprise Value.

In particular, we value Vitalab (and Arterra’s stake in Vitalab) in line with the value attributed to the whole business, i.e. we apply a 3.9x EV/Sales 2021E, obtained as implied multiple from Arterra’s DCF valuation. Note that, considering Vitalab’s nature of mere distributor of Arterra’s products, we remove from the subsidiary’s top-line the “intragroup” revenues and get to a value of Vitalab stake of €3.6mn.

WACC assumptions Thanks to the generous cash-flow generation, the Company is expected to maintain a Net Cash Position in the projected 2019E-27E period. Therefore, WACC and Cost of Equity coincide throughout the entire model, with an estimated value of 13.83%.

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These figures are the result of a CAPM methodology, based upon the following assumptions:

® 2.0% risk free rate to reflect European medium-term target inflation;

® 9.02% Implied Italian Equity Risk premium (ERP, see Damodaran on line web site);

® 2.5% credit spread and 2.0% Small Size Risk Premium, in line with the Expanded CAPM approach that we consider more appropriate when dealing with small sized companies;

® We estimated Arterra’s unlevered Beta using Damodaran’s estimates on those industries that we consider most closely related to Arterra’s business, i.e. Biotechnology Drugs, Specialty Chemicals and Healthcare Products: a panel of ca. 818 companies implying a 1.09x unlevered Beta.

Arterra: WACC calculation Risk free 2.00%

Risk Premium 9.02%

Credit spread 2.50%

Beta Unlevered 1.09

Small Cap Risk Premium 2.00%

Cost of Equity = WACC 13.83%


DCF Model medium term assumptions We run a DCF model based on the following assumptions in terms of earnings and terminal value:

® FY2019E as historical reference point;

® Explicit projections into 2027E, where our forecasts for 2020E-2021E are those described above and for the following years we assume a gradual diversification into new sectors, along the strategy outlined by management, but assuming a limited reinvestment of cash flow generated;

® Terminal value at 2027YE obtained applying a 2.5% Perpetuity Growth Rate (PGR) in order to reflect the Company’s long-term level of maturity (with an implied EV/Sales exit multiple of 2.4x and EV/EBITDA of 5.1x, i.e. well below the current cheapest stocks in the sector).

Arterra: DCF model outcome €mn

PV of future Cash flow FY 2020E-27E 6.8

PV of Terminal Value with PGR at 2.5% 12.5

Enterprise Value 19.3

Implied EV/EBITDA 19E 15.9x

Peripheral assets: Vitalab stake and option 3.6

Net Cash Position 2019YE 3.9

Equity Value 26.9

Shares (mn) 6.5

Equity Value p. s. (€) 4.1


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Arterra: DCF Sensitivity Analysis - Equity Value (€mn) Perpetuity Growth Rate 1.50% 2.00% 2.50% 3.00% 3.50%

WAC

C

14.8% 3.7 3.8 3.9 4.0 4.1

14.3% 3.8 3.9 4.0 4.1 4.2

13.8% 3.9 4.0 4.1 4.2 4.3

13.3% 4.0 4.1 4.2 4.3 4.4

12.8% 4.1 4.2 4.3 4.4 4.5


Peers Analysis

Choice of comparables Despite there are plenty of players on the biotechnology industry, it is not easy to identify suitable peers with a business model totally aligned to Arterra. The selection of the following companies has been made by considering the reference business, split into two main categories:

® Companies focused on Healthcare and Cosmetics, i.e. aligned to current Arterra activity;

® Companies focused on Agriculture, Animal Health and Nutrition, i.e. involved in end markets where Arterra at the moment only carries research activity, but that intends to enter in the future.

Arterra Comparables – Business Profiles

Plant Advanced Technologies SA. PAT is France based plant biotechnology company specialized in identification, optimization and production of rare biomolecules and plant extracts dedicated to the pharmaceutical laboratories, cosmetic industries and green chemistry.

BRAIN Biotechnology Research and Information Network AG . Germany based industrial biotechnology company which engages in the development and commercialization of bioactive natural compounds and proprietary enzymes, collaborating with industrial partners such as cosmetic industries.

Croda International Plc. UK based manufacturer of ingredients for skin, hair sun and colour cosmetics products. Croda also develops products for pharmaceutical and nutraceutical markets as well as for agrochemicals, to improve seed performance and farming yields.

Symrise AG. German leader in the production of fragrances, flavouring and cosmetic base substances for cosmetic, food industries, along with natural ingredients for nutritional supplements and pet food production.

Deinove SA. French biotechnology company manufacturing special ingredients for health, nutrition and cosmetic industries thanks to its genetic, fermentation and metabolic engineering platform.

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Fermentalg SA. France based industrial biotechnology company that engages the production and of compounds from microalgae. Its products are intended for the food-processing, pharmaceutical, cosmetic, animal nutrition, specialty chemicals and bioenergy sector.

Novozymes A/S. Denmark based world’s leading producer of enzymes and microorganisms for industrial companies. Its business areas include agriculture, bioenergy, biopharma, food and beverage, household care and wastewater solutions.

Codexis, Inc. US based protein engineering company is involved in the development of biocatalysts products for the commercial manufactures of pharmaceuticals and fine chemicals.

Source: Various, Value Track Analysis

In our view, the most similar companies to compare for valuation purposes are mainly European middle-size players, with specialized business or divisions. Our selected companies, including no Italian firms, are active in the White, Green, Red and Blue Biotech platforms.

Arterra: Peers’ features and main business activities

Company Country Currency Mkt Cap

(mn) Revenues

2019E (mn) White Biotech Red

Biotech Green

Biotech Blue

Biotech Cosmetics Others

PAT France EUR 22.4 1.4 ✓

✓ ✓

Brain Germany EUR 194.0 41.2 ✓ ✓ ✓

Croda UK GBP 6,340 1,409 ✓ ✓ ✓ ✓

Symrise Germany EUR 12,100 3,048 ✓ ✓ ✓

Deinove France EUR 12.3 1.2 ✓ ✓ ✓

Fermentalg France EUR 29.4 2.1 ✓ ✓ ✓

Novozymes Denmark DKK (*) 9,477 14,410 ✓ ✓ ✓

Codexis US USD 926 71.1 ✓ ✓ ✓

Arterra Italy EUR 24.2 3.0 ✓ ✓ ✓ ✓

Others includes: Industrial such as Nutraceutical, Functional Food, Household Care and Chemicals (*) DKK equals ca 0.13 Euro


Arterra vs. peers: a four-dimension comparison We analyse Arterra’s peers group emphasizing four main aspects:

1. Top-line momentum;

2. Business size;

3. Profitability of business model;

4. Financial risk.

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42

In particular, we focus our attention on Top-line figures instead of a more typical EBITDA, as the vast majority of biotech companies experience volatile numbers, with persistent negative results during the first phases of their life. Note that in this Peers Analysis, when referring to EV/Sales, we consider as “Sales” all revenues, i.e. including grants, research contracts, etc.

On the other hand, we believe that a comparison regarding capital sourcing can help the investor addressing critical thinking on companies’ operating diligence.

Momentum: top line growth We compare Arterra to its peers by means of expected top line growth, considering 2019E year-on-year growth and a 3yy 2018A-21E CAGR, highlighting Arterra’s positioning in the middle of the group.

Arterra vs comparables: Expected Top-line growth

Revenues growth 2019E YoY

Revenues growth 18A-21E 3yy CAGR

Source: Market Consensus, Value Track Analysis

* Sales Growth and Sales CAGR: Fermentalg is not included for graphical reasons

Business size: Revenues 2019 The selection of Arterra’s peers implies the presence of three different clusters of companies that can be identified by size of Revenues 2o19E.

The first group includes Symrise, Novozymes and Croda, considered global leading companies in cosmetics and industrial market. On the other hand, the second group is made of Codexis and Brain, i.e. well-established players in the market. Lastly, Arterra, Fermentalg, PAT and Deinove identify a cluster of companies generating revenues under €10mn in 2019E.

.

Arterra vs. comparables: Revenues 2019E (€mn) by size cluster

Market Leaders

Established Peers

Small Players


59.4

35.1

22.1 19.7 17.3 15.2

7.91.7 0.2

Deinove

Brain

PAT

Median

Codex

is

Arterra

Symrise

Croda

Novozymes

91.7

27.919.0 18.3 17.8

8.13.1 3.0

Deinove PA

T

Codexis

Arterra

Brain

Symrise

Croda

Novozym

es

3,403

1,875 1,651

Symrise Novozymes Croda

64

41

Codexis Brain

3

21 1

Arterra Fermentalg PAT Deinove

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Profitability of business model: EBITDA & Net Income This comparison underlines how Arterra combines top-line growth and one of the best-in-class marginalities. In fact, considering EBITDA and net margins in 2019E and 2021E, Arterra is comparable to much larger firms.

Arterra vs comparables: EBITDA & Net Income margins (% Revenues)

2019E*

2021E*


*Companies with negative profitability numbers are not shown. Arterra bet margin is adjusted for IPO costs amortization

Financial risk: Net Debt vs Capital Employed We analyse the level of indebtedness among Arterra’s peers and from the picture we derived, it is clear how peer companies generally rely on debt to fund their operations. On the other hand, Arterra can count on a stable Net Cash Position starting from last year and further improved after IPO.

Arterra vs comparables: Net Debt/Cash on Capital Employed

Net Financial Position / Capital Employed 2019E

Net Financial Position / Capital Employed 2021E

Source: Market Consensus, Value Track Analysis. Deinove (-326% in 2019E) and Codexis (+96% in 2019E) are excluded for graphical reasons. Negative values refer to net debt, positive values refer to net cash position

35% 36%

29%

21%

28%

21%

17%

9%

Arterra Novozymes Croda Symrise

EBITDA margin (%) Net margin (%)39%

35%30%

33%

22%

27%

21%19%

6%

10%

Arterra Novozymes Croda Fermentalg Symrise

EBITDA margin (%) Net margin (%)

-46% -43%-31% -25% -22% -21%

119%

Symrise

Brain

Croda

Fermentalg

Novoz

ymes PA

T

Arterra

-72%-52% -52%

-34%-22%

-10%

112%

Brain

Fermentalg PA

T

Symrise

Novoz

ymes

Croda

Arterra

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Relative Valuation We selected EV/Sales as the most appropriate multiple to compare Arterra to its peers as, given most of them are relatively young, profitability tends to widely vary and is often negative. Therefore EV/Sales seems the only meaningful multiple, although we acknowledge the peers' group includes companies that differ materially in terms of size and liquidity, and multiples remain quite scattered over 2019E-2020E. As a result, we focus our attention towards 2021E as at that point we detect a better convergence of multiples, especially of the smaller European players (the likes of PAT, Fermentalg, Deinove and BRAIN), towards their median level.

Our peers suggest for the sector a suitable median EV/Sales multiple around 5.8x in 2021E.

Peers’ Analysis: EV/Sales 2019E-21E summary table

EV / Sales (x) 2019E 2020E 2021E

Brain 5.1 4.9 4.5

Croda 4.8 4.5 4.2

Symrise 4.0 3.6 3.4

PAT 17.5 12.8 11.8

Deinove 23.3 11.4 7.6

Fermentalg 17.9 9.9 5.3

Novozymes 6.7 6.5 6.2

Codexis 11.8 10.2 8.2

Median 9.2 8.2 5.8

Arterra 4.8 4.0 3.2


From the positioning outlined in the previous section, it emerges that the major element of concern for Arterra is related to its small size and therefore to the execution risk always linked to high and sustained growth rates in very lean firms (it is the drawback of small/high potential stories).

This in our view should call for a certain discount to the sector that could range around 30% and therefore apply this discount to the median EV/Sales 2021E multiple: we obtain a fair multiple of 4x and an Equity Value of €28.4 or €4.3 per share, which includes the value of the 25% stake (plus the option) in Vitalab, valued on the same multiple.

Peers’ Analysis: EV/Sales Valuation

€mn €mn

Arterra Sales 2021E 4.9

EV/Sales multiple 4.0x

Arterra EV 19.9

Peripheral assets: Vitalab 3.8

Net Cash Position 2021E 4.7

Equity Value 28.4

Equity Value p.s. (€) 4.3


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45

In order to better visualize our assumptions regarding Arterra’s Peers Analysis, we include a value map highlighting the distribution of the selected peers in terms of EV/Sales 2021E vs. the expected forward 3yy top-line CAGR.

Peers Analysis: EV/Sales 2021E vs. Sales CAGR 2018A/2021E

EV/Sales 2021E

Source: Market Consensus, Value Track Analysis. Fermentalg and Deinove are considered outliers and not included.

Scale-up peers valuation As outlined above, within the peer group there is a short list of smaller players, i.e. the European peers still in scale-up phase. As a reference, the table below shows their valuation in terms of Enterprise Value and indicates a range of €24-38mn, despite the marginal turnover still linked to pure R&D activity (e.g. Research Grants), the negative margins and net debt exposure.

Arterra: Absolute valuations of smaller peers

(€mn) Mkt Cap Net Debt 2019E & other adj. (*) EV Revenues 2019E

PAT 22.4 2.1 24.5 1.4

Deinove 12.3 15.8 28.1 1.2

Fermentalg 29.4 8.6 38.0 2.1

Average 30.2

Arterra at mkt price 24.2 -4.4 19.8 3.4

Arterra at fair value 27.5 -4.4 23.1 3.4

Source: Value Track Analysis (*) The stake in Vitalab is valued at book

In addition, it is worth to point out that at the end of November 2019 PAT and Clariant signed a strategic partnership aimed at the joint development and exclusive distribution of the active ingredients developed by PAT for cosmetics. The agreement included the subscription of a 10% stake of PAT by Clariant at €20 per share (broadly in line with current market prices) or 17x 2019E EV/Sales. The deal is very similar to those signed by Arterra with Intercos and Vitalab a few years ago and the equity element mirrors Intercos entrance in Arterra share capital at IPO (with a 8.8% stake).

BrainCroda Symrise

PAT

Novozymes

Codexis

Arterra Market PriceArterra Target Price

0.0

3.0

6.0

9.0

12.0

15.0

0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0%

EV/S

ales

202

1E (x

)

2018A-21E Sales CAGR (%)

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Forecast Summary tables

Arterra: Income Statement (€'000) 2016A 2017A 2018A 2019E 2020E 2021E

Sales n.a. 1,503 1,868 2,177 2,821 3,659

Research (grants, contracts and services) n.a. 1,178 1,091 1,230 1,235 1,246

Others (incl. R&D tax credit, inventories var.) n.a. 64 19 24 25 25

Total Revenues (Value of Production) 1,890 2,745 2,978 3,431 4,081 4,931

Raw Materials -208 -210 -259 -290 -331 -383

Services -435 -466 -533 -635 -735 -912

Gross Profit 1,247 2,069 2,186 2,506 3,015 3,636

Gross margin % 66% 75% 73% 73% 74% 74%

Cost of Labour -652 -736 -847 -1,149 -1,489 -1,565

Others op. costs -167 -166 -199 -141 -113 -146

EBITDA 428 1,167 1,140 1,216 1,413 1,924

EBITDA margin % 23% 43% 38% 35% 35% 39%

D&A -240 -143 -73 -298 -355 -414

EBIT 188 1,024 1,067 918 1,058 1,511

EBIT Adj. 188 1,024 1,067 1,074 1,214 1,667

EBIT margin Adj. % 10% 37% 36% 31% 30% 34%

Net Financial result (incl. div. from Vitalab) -4 -7 6 -148 -138 -49

Pre-tax Profit 184 1,017 1,073 926 1,075 1,618

Pre-tax margin % 10% 37% 36% 31% 26% 33%

Taxes -57 -272 -29 -104 -260 -415

Tax rate -31% -27% -3% -11% -24% -26%

Net Profit 127 745 1,044 822 815 1,202

Net Profit Adj. 127 745 1,044 932 926 1,313

Net Profit margin Adj. % 7% 27% 35% 27% 23% 27%


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Arterra: Balance Sheet

(€'000) 2016A 2017A 2018A 2019E 2020E 2021E

Trade receivables 245 302 630 652 694 789

Inventories 194 263 267 309 347 419

Other op. current assets 1,036 1,645 1,688 1,318 1,481 1,698

Total Current Assets 1,475 2,210 2,585 2,279 2,522 2,906

Trade payables 115 161 257 274 286 296

Other op. current liabilities 208 338 440 412 469 493

Total Current Liabilities 323 498 697 686 755 789

Net Working Capital 1,153 1,712 1,888 1,593 1,766 2,117

Intangible Assets 90 27 108 773 662 575

Tangible Assets 215 185 567 1,081 1,429 1,726

Vitalab stake 472 462 452 451 451 451

Net Fixed Assets 777 674 1,127 2,305 2,541 2,752

Provisions (incl. TFR) 510 628 631 743 872 906

Total Capital Employed 1,420 1,758 2,384 3,155 3,436 3,963

Net Equity 1,020 1,715 2,559 7,081 7,663 8,633

Net Financial Position [(+) Cash, (-) Debt] -400 -43 175 3,926 4,227 4,671


Arterra: Cash Flow Statement

(€'000) 2017A 2018A 2019E 2020E 2021E

EBITDA 1,167 1,140 1,216 1,413 1,924

As a % of Sales 43% 38% 35% 35% 39%

Op. WC requirements -219 -176 295 -174 -350

Capex (incl. IPO costs in 2019E) -51 -536 -1,477 -591 -624

Change in provisions 119 3 112 129 34

OpFCF b.t. 1,016 431 146 777 984

As a % of EBITDA 87% 38% 12% 55% 51%

Cash Taxes -272 -29 -104 -260 -415

OpFCF a.t. 744 402 42 517 568

As a % of EBITDA 64% 35% 3% 37% 30%

Capital Injections 0 0 4,000 0 0

Other and div from Vitalab 0 9 1 0 100

CF available to serve debt / equity investors 744 411 4,043 517 668

Net Financial Charges 3 6 8 18 7

Dividend paid -50 -200 -300 -233 -232

Change in Net Fin Position 697 217 3,751 302 443


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Analyst Green, Biotech, Italian …what else? · 2020-01-15 · Arterra Bioscience | Initiation of...

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