$AMRS: Like $AAPL 30 Years Ago

(December´s) Deep Dive

Note: you may enjoy reading this older post on the key advances in the genomics space in order to better understand the below.

Summary:

1. AMRS 0.00 is pioneering the synthetic biology industry, which will enable us to make expensive and scarce things ubiquitous, cheap and sustainable.

2. $AMRS has plenty of risk, but is priced today well below the fair value of its two leading brands, Biossance and Pipette.

3. You get the rest of the company for free. Its ability to scale molecule manufacturing and pick the right molecules to commercialize in the first place will lead the industry forward. Market is totally disregarding both components.

4. The company is taking a number of steps to explode its top line and get the bottom line in the green.

5. The long term potential is vast.

Introduction: Potentially Decades of Capital Compounding Ahead

Humanity’s history can be seen as one explosion of productive knowledge (intangible capital) after the other. Examples of this are the discovery of fire, the Renaissance and the 1st and 2nd industrial revolutions. Through history, we have improved our lives and created wealth by getting more knowledgeable about things and hence taking better decisions.

Software has exponentiated this process and over the last twenty years, we have seen book value account for less and less of enterprise value, because we have not figured out how to account for intangible capital yet. Intangible capital is the secret ingredient behind today´s top companies and I believe this trend will continue to accelerate. As a side note, I do not believe this implies leaving common sense investing behind, which probably merits a post on its own some day.

From “Capitalism without Capital” by J. Haskel and S. Westlake

We have seen notable intangible capital compounding machines such as Google emerge (my deep dive on $GOOG). These machines get stronger and more productive as they get bigger because they are able to weave additional layers of capital together at marginally decreasing costs. Many have been and still are great investments. To me, $AMRS seems to be such a machine in the making, in its early days, with plenty of caveats, nonetheless.

Today, $AMRS operates in the synthetic biology space, which is all about making stuff cleanly through biology, by programming cells to make things for us. We can do so by inserting genomic code (instructions that code for a specific output) into a yeast cell, for instance and then feeding it sugar as a source of energy and have it produce the target end product. This is a very simplified explanation, but will suffice for this post.

The more stuff it makes through Biology, the smarter $AMRS gets. It compounds knowledge / intangible capital, principally through the use of software and automation. In principle, Biology is better at making things than any of our traditional production methods, from an atom-to-atom perspective. Most importantly, it is capable of producing products:

1. For cheaper

2. More sustainably

Naturally, everyone along supply chains prefers cheaper stuff and as of late, end consumers increasingly prefer sustainable products. Just to be clear, I would only assume lower costs and higher sustainability to generally yield a competitive advantage in the market going forward. Both conditions are required to win across the board.

src: https://www.ibm.com/downloads/cas/EXK4XKX8

Today, synthetic biology is tractioning in practice in a small subset of our economy. But as the technologies that enable synthetic biology continue to evolve and costs decline, we can expect it to gradually make its way through industry. Presently $AMRS is tapping into the chemicals industry, which in 2019 produced $3.4tr in revenue, by making high-margin molecules for cheaper and more sustainably. This is already a compelling business case, because it has only cashed in $356m in the TTM in this space.

Going forward, however, we must keep the bigger picture in mind. Today we are limited to the synthesis of molecules, but in a few decades time we will be able to make anything with biology, making things that are expensive and scarce today, cheap and abundant. As a result, industry will become a genetic programming problem and will be sustainable by default.

The next few decades in syn bio will look a lot like what we have seen so far with semiconductors, that have gone from little nerdy toys to foundational components of our economy. We have plenty of time to catch winners and I believe having $AMRS on our map is a key addition. The company has a very good shot at compounding capital in this space for decades and a long term investment may be very lucrative, regardless of the short term volatility.

Before get into the details of $AMRS, allow me to take a quick step back and outline why I find this company particularly interesting, in the context of the synthetic biology industry.

What Makes $AMRS Interesting

To sum up the entire section, I believe $AMRS has the properties of an asymmetric investment opportunity in the making. The objective of this section is to give you the context of why I believe this stock is worth a look in an industry that is full of noise.

Sits Horizontally on Top of Inevitable / Unpredictable Disruption

Synthetic biology works by inserting instructions (genomic code) into cells, so that the cells then produce for us whatever we want to produce. This is made possible in the first place by a range of advances:

1. We can now read, edit and write genetic code at increasingly lower costs and higher speeds.

2. We now have the computing power and analytical tools (data science) to make sense of vast amounts of data.

3. Advances in robotics now allow for radical increases in throughput.

   

   The cost of DNA sequencing is decreasing faster than Moore´s Law would have it

The above can then be broken down into many smaller components and in general, are facilitated by a broad number of different companies. Through time, each little component is subject to much disruption, as the technology continues to evolve. In turn, the different companies that provide each one of these components are mostly very generously valued, at many times sales, specifically in the areas of #1 and #2. Here are some example companies:

1. Gene editing:

   • $NTLA: P/S = 312.66, $EDIT: P/S = 80.31, $CRSPR: P/S = 8000 until Jul ´21, $BEAM: P/S = 6728.46

2. Gene sequencing:

   • $PACB: P/S = 37.48

3. Genetic data analytics:

   • $NVTA: P/S = $7.2 (perhaps less generously valued)

Now, I am not arguing that any of the above companies will not be good investments going forward or that the P/S ratio is the best way to look at them. What I do note is that the industry is awash with apparently highly valued vertical components that are subject to disruption. I am not clever enough to predict how said disruption will unfold and so the odds seem stacked against me.

However, in such an environment, companies that sit above the chaotic vertical space, compounding productive knowledge through software, with proven commercial traction, healthy balance sheets and a fair valuation become interesting to say the least. This is the case of $AMRS, fundamentally because its operations are facilitated by the different vertical components but is unlikely to be disrupted by their underlying evolution.

Undervalued Relative to Peers

Competitors $DNA and $ZY also sit horizontally above the chaos, but there seems to be an arbitrage situation here. $DNA and $ZY are currently much more generously valued than $AMRS, even though neither have successfully scaled up molecule synthesis, whilst $AMRS has done so and quite extensively.

In terms of their technology, the three companies do not seem to differ much, whilst they differ in terms of their commercial approaches. $DNA aims to monetize its core technology by taking stakes in clients´ventures. $AMRS prefers to do so by developing its proprietary brands, predominantly. Nonetheless, in the commercial sense, $AMRS is still far more advanced than $ZY and $DNA, with a proven ability to scale up and commercialize molecules.

In industry, prototypes are relatively easy to put together, but scaling them up into production is hard. The market is prone to underestimating this, as I will illustrate further on. I believe the market is underestimating this once again, giving $ZY (P/S=36) and $DNA (P/S=200+) copious multiples, simultaneously giving $AMRS (P/S=4.2) a much more tamed valuation.

In terms of revenue, $AMRS has grossed in $356m in the TTM and $ZY and $DNA have grossed in $19.6m and $76.6m. To be more specific, more than half of $DNA´s revenue comes from COVID19 testing, which is arguably tangential to its core business. Despite this, $ZY´s market cap is only 43% that of $AMRS´s and in turn $DNA´s market cap is 8.8 times $DNA´s. Whilst I am not arguing that $ZY and $DNA will do badly in the future, I do argue that there is likely a relative mispricing here.

Q3 Selloff Overdone

Further, $AMRS has sold off recently due to its recent Q3 estimates miss. The company left some revenue on the table, allegedly due to supplies getting stuck somewhere. Also, the company acquired an influencer agency named MG Empower and issued a convertible note with some intricacies to it. The market did not seem to like either. I believe the selloff might be an overreaction and seems to put the stock into value territory.

Most importantly perhaps and to finish off this section, just the value of one of $AMRS´s components, its consumer brands, is arguably higher than its current market cap. More details further on in the post. This and the fact that the stock has traded at around 5$ for years when it was doing much worse, together with all the above, makes $AMRS look like an asymmetric investment opportunity, although I have some further considerations.

With the above context, let´s now dive deeper into $AMRS.

Diving Deep into $AMRS

History

Reviewing Amyris’ history is interesting because it holds valuable lessons for the industry and for investors considering investing in it. $AMRS was founded in 2003 by Berkeley grads and started off its wanderings by synthesizing artemisinin, an active ingredient key for treating malaria, aided by a grant from the Bill and Melinda Gates foundation. This was cheaper and more sustainable than getting artemisinic acid (equivalent) from Chinese sweet wormwood, the only otherwise viable source .

Down the line, John Doerr, the world´s richest capitalist, made the first $20m investment in the company (today he owns around 30% of the equity). Eventually, in 2007, the company decided to bring an experienced CEO in and ended up appointing John Melo, who previously was the president of U.S. fuel operations at BP. Melo then pivoted the company from a science project to a molecule outputting machine, pointing its efforts to the production of bio fuel, with farnesene as its main product.

The market got very excited with the bio-fuel story, as the price per barrel of crude oil went above 100$. The bio fuel was meant to be a cheaper and more sustainable perfect substitute of traditional fuel and $AMRS estimated that scaling up the production competitively was going to be quite doable.

Crude oil price per barrel

As the company went public in 2010 and as the price of oil then proceeded to plummet, both the attractiveness of bio fuel and the firm´s credibility vanished. $AMRS was able to output biofuel at $7.8 per litre (not competitive at all) and it had great trouble scaling up production in the first place. Melo has been quoted to say “the regret is not realizing how hard it was to get the scale up”. $AMRS stock price dropped sharply and ever since, the sentiment towards the stock has remained somewhat dampened.

From 2015, $AMRS moved on to synthesize and commercialize squalane, its parent molecule being farnesene. Since, the company has been synthesizing and commercializing at scale a broad range of molecules, but more about this in the next sections.

The main lesson from this snippet of history is that scaling up production is hard and that both management teams and the market have underestimated it in the past in the syn bio industry, for relatively extended periods of time. The high multiples the market is assigning to unproven companies in this sense suggests that history may repeat itself.

The other lesson is that translating successes in the lab to commercial triumphs is also easier said than done. It not only requires the ability to scale production, but also the ability to pick the right molecules to scale up in the first place, accounting for many variables that are uncontrollable. This can be about as hard as picking the right stocks in the market.

These lessons from history are valuable not because I am arguing that $DNA and $ZY are bad, but because what we are talking about here is an arbitrage situation. It takes a little bit of historic perspective and some good old business experience to see what is likely to be happening here.

Source of Value

$AMRS´s main source of value is its proven ability to scale up and successfully commercialize high-margin molecules, at decreasing costs and increasing speeds. Special emphasis must be made on the last two terms, because this is where the compounding happens. As it gets faster and more efficient, $AMRS gets smarter and is able to weave additional layers of intangible capital at decreasing marginal costs. This forms a flywheel.

The above statement packs in a lot of observations, but it can be distilled down to two distinct practical moats that its competitors do not have. The first moat is the manufacturing excellence. The second is the ability to successfully commercialize the outputs of the manufacturing process. Whoever operates in / enters the syn bio space is likely to have trouble manufacturing, picking and commercializing the right molecules. Players in the space may need to default to $AMRS to solve their issues; hence money for $AMRS. This will likely be accentuated as $AMRS continues to compound.

To further emphasize $AMRS´s source of value, consider that it has thus far successfully commercialized 13 molecules at scale since it pivoted away from bio fuels in 2015. The company has allegedly not flunked a molecule once since that date. $ZY and $DNA are no where near that level of performance and likely years away from reaching it.

In terms of its core technology, $AMRS is very similar to $DNA and $ZY. Feel free to check out my deep dive on $DNA if you have not already, ìn which I explain the core technology in more detail. Both are learning machines that use software, genomics, automation and mass spectrometry to get smarter over time at making stuff through biology.

Like $DNA (codebase), $AMRS weaves a metabolic map, that helps it figure out what the best way to synthesize a given molecule is. Everytime $AMRS synthesizes a molecule, it adds to its intelligence. As I have explained above, eventually this map will enable us to make anything through fermentation.

I note that $AMRS is way less fancy than $DNA at communicating its technologies. Further, since I am not an expert in synthetic biology, I am sure that I am missing many details in the tech side, but the arbitrage thesis can accommodate for a fair delta between $AMRS and $DNA in this sense. I do not think there is a very large one, nonetheless. In terms of the infrastructure to get exponentially smart about making things through bio, $AMRS looks right up there with $DNA.

$AMRS has also developed its own coding language, that enables it to specify thousands of base-pairs in a DNA sequence with a simple command. As is the case with the metabolic map, this is the sort of technology (software) that enables the magic compounding of intangible capital through time.

Business Dynamics

Now, in terms of operations, I believe $AMRS can be divided into two main subsets:

Molecule synthesis includes all the bits and pieces that makes the company good at producing things (molecules, for now) through bio, cheaper and more sustainably. To commercialize the molecules it synthesizes, the company then either sells end products based on their molecules through proprietary brands, or it sells the molecules directly to companies as ingredients for their business. It also makes money by assisting other companies in R&D processes.

This means that in effect, $AMRS is operating two different businesses at the same time. In one business it runs a whole lot of complicated science and then on the other it runs brands. On one hand, this vertical integration has the potential to be vastly profitable down the line. On the other hand, this is a complicated business to run, to say the least. The real question going forward for $AMRS is, can they run these two businesses at the same time?

I believe we can gain some insights by looking into the company´s track record, which fundamentally reveals that $AMRS is quite good at both parts of the business. They clearly nail molecule synthesis from lab to market. Costs and time to market continue to descend exponentially, whilst throughput continues to accelerate in the opposite direction and the company continues to successfully scale up the production of 2 molecules per year.

On the other hand, their proprietary brands look great, but they do not disclose much data on them, notably costs. They are growing fast, but I cannot see at what cost or how costs are structured at all, so it is hard to glimpse any cost synergies and hence make any inferences about future profitability in this area. I hope management sheds some light on this in the coming quarters.

$AMRS´s first brand was Biossance, which grossed in $1m in Y1, $50m in Y4 and $100m in Y5. Pipette, launched in 2019 grossed in $7m in Y1 and $20m in Y2, 4-5x more that Biossance in Y2 (creds for this snippet to Fallacy Alarm). Whilst the growth is there, at this stage we cannot really tell when revenues are going to meaningfully exceed costs.

Qualitatively, I know that launching one brand on its own is a hard thing to do in general, but $AMRS seems to have the ability to launch them sequentially and grow them fast. Accordingly, I would assume that management would be able to curate a sensible cost structure. However, this remains the big unknown in the thesis for me at this stage.

Commercial Strategy

To further comment on the above, I knew from personal experience that squalene is a high end cosmetic ingredient, before looking at $AMRS. My mother has a moisturizing cream she applies at night that contains this ingredient, in a concentration no higher than 10%. She calls it “liquid gold”, both due to its efficacy and its price.

$AMRS makes squalane, which is functionally identical to squalene, but at a much lower price. Both Biossance and Pipette, $AMRS´s first two brands, are built on this molecule. Squalene is mostly extracted from shark liver, so squalane made through fermentation also saves the lives of many sharks. As you can see, its unique selling point is with respect to its traditional alternative is:

1. A much more competitive price.

2. A far more compelling environmental set of characteristics.

The other 12 molecules that it has commercialized to date have analogous profiles (creds to ThePoorGraduate). They all inherently do good for the environment, which makes its current ESG score of 51 (high risk) look out of place. They seem to be cheaper and more sustainable alternatives of high-margin molecules.

An interesting one is CBG, which can be an order of magnitude more powerful than CBD (in terms of reducing inflammation, for instance), that $AMRS is able to produce at scale today at a much lower cost than otherwise. The pipeline seems to reflect a continuation of this strategy.

I believe much of the success we are seeing in the brands is due to the unique selling points brought about by fermentation, which should continue to drive growth in an industry populated by slow moving incumbents. I think $AMRS is doing a good job focusing on the areas in which early adoption is most likely and this is no doubt showing up as revenue growth. The commercial strategy is sound.

Since by default humanity´s current production systems are extractive, the number of ingredients that can be developed with the above profile is pretty much infinite and hence the products / brands that can successfully derive. The TAM is large enough for a 100+ bagger from today or even more. All that is needed is good management, which is the next topic.

Management and Ownership

Melo has developed a reputation to over-promise and under-deliver and I believe this has weighed on the stock. He is considered a salesman by many, in the pejorative meaning of the word. For instance, the CEO of Gingko, Jason Kelly, is much more widely acclaimed, even though it looks like Gingko still has to make it through the scale up associated challenges / ring of fire.

$AMRS is at the edge of scientific advancement in the syn bio space but it also has to meet the requirements and expectations of Wall Street. This is a complicated position to be in, highly prone to volatile swings in sentiment. The street wants consecutive beats and green numbers in the bottom line, but this is incompatible with immature science.

However, what $AMRS has done since 2015 is notoriously difficult and I think must be indicative of Melo´s solid leadership and management. In turn, their ability to turn all that complicated science into salable output I think must indicate a solid culture. The relationship between culture and productive output is really the backbone of economic history. It is very easy for a company of this complexity to do the opposite if management (and hence culture) goes wrong.

I think Melo´s leadership style is based on having his people shoot for the moon and this is hard to balance with keeping analysts relaxed. Regarding the recent Q3, I would have preferred management to outmaneuver the supply shortages as we have seen in $GPRO over the last year, but this is nonetheless a coherent and justifiable incident.

In terms of ownership, management does not own a very large share of the company, whilst John Doerr owns a good 30%+ of the company. Given the arduousness of the task ahead, I think I would like to see management owning a bigger stake. On the other hand, Doerr sits at the board, having left the board of $AMZN were he served for many years and invested early too. I am sure he adds plenty of wisdom to the operation.

Thankfully, as of recently the company seems to be taking steps to correct this, with a plan to issue Melo up to 6m shares in a long term incentives package (page 6). This looks more like it.

Growth and Financials

I believe the path to success for $AMRS comes down to brands continuing to grow, the supply chain continuing to get vertically integrated and most importantly, the cost structure allowing for a high average contribution margin per brand.

In looking at the I/S, it becomes obvious that revenue is growing and additionally, that what the company needs is a cost effective explosion in value capture. It is doing a good job with the science, but the path to top and bottom line growth is through increased brand (and ingredient) associated revenues.

The continued growth of Biossance, Pipette, the recently launched brands and the ones they have in the pipeline are likely boost revenues and sanitize the bottom line. We may see this happen in FY2022. Here, I am assuming that most of the costs are associated with the science and that brands have some sort of synergy among them, which remains to be seen.

A possible revenue boosting deal which is worth mentioning is the JV signed with Immunity Bio to produce next gen COVID19 vaccines. It turns out that squalene is an excellent vaccine adjuvant, that would enable the vaccine to be stored at achievable temperatures achievable in developing countries and still work, with far less genetic material than otherwise . (A vaccine adjuvant boosts the immune system´s response to the vaccine itself). This could be foundational in vaccinating the rest of the world and hefty profits could follow.

Additionally, in March 2021, $AMRS struck a deal with DSM to license its low margin flavor and fragrance portfolio, in exchange for $160m upfront and $340m over 15 years. From an accounting perspective this has been included as revenue and many are quick to point out that it should not have been, since it is not recurring.

My thoughts here are that whilst selling through proprietary brands yield much higher margins, there is nothing wrong with licensing ingredients that are not optimal to build brands on top of - as long as this does not becoming a predominant source of revenue. The chemicals industry is large and I believe we will see many transactions of this sort happen going forward.

Even if you subtract this deal from revenue, top line growth is still there. Further, the bottom line for both brands and ingredients revenue growth is the continued at scale output of high-margin molecules with the profile I described above. As long as $AMRS continues to do that, it will do fine.

kjTime will tell if value capture explodes or not, but by the time it shows up in the numbers, it will probably be too late. As I said earlier the bet here seems to be on whether $AMRS can deal with brand management at the same time it deals with the science and at this time, only a qualitative take on the subject is possible. My view is that they can pull it off, per the little clues I am seeing in the still early phases of this vertical integration extravaganza.

To further add to the comment of value capture showing up in the numbers or not, I have seen $GPRO (another turn around play) post incredible numbers across the board for a good year now and the market persistently ignoring it, quarter after quarter. Similarly, I believe that if $AMRS accumulates enough pessimism by the time the numbers come through, it may give us plenty of time to build a good position.

Meanwhile, $AMRS does most of its manufacturing through 3rd parties. This takes a toll on gross margin, with a higher COGS than if manufacturing was also integrated vertically. $AMRS is building an ingredient manufacturing site in Barra Bonita, Brazil and a consumer production facility in Reno, Nevada. Both should meaningfully increase gross margin and decrease supply chain disruptions as they come online in 2022.

The balance sheet looks relatively healthy with $114.9m cash in hand and $17.1m in LT debt. However, ST debt jumps from $77.4m in Q2 to $305.2m in Q3. This is quite an increase and I would be wary of it (keeping a close eye on it in Q4). Further, on Nov 15 $AMRS secured $690m in funding in the form of a 1.5% convertible note due in 2026, with a strike price of 10.75 per share. Who knows, but this may well expire in the money and be dilutive, following the trend of the last few years, that is evidenced very clearly by the evolution in revenue per share, despite revenue going up:

Revenue per share

Revenue in $m

Net funding from the note is $540m, plus the $144m in cash, that is $654m in cash. Given their cash from operations and cash from investing, which burns up around $100m per quarter, the current cash should afford them to segway into the second half of 2023. Until then, $AMRS has the funding to continue operating, assuming the brands grow organically for the most part. Roughly speaking, if all goes well, I would expect shareholders to continue getting diluted in this company for the next couple of years.

Valuation

$AMRS has a long growth runway ahead, just in the multi trillion dollar chemicals industry. I think that its reliable ability to produce commercially attractive molecules at scale that out-compete incumbents is going to permeate through the chemicals industry and then, is going to make its way through the rest of the economy. Synthetic biology will be a key part of our world and companies that dominate in this space will make FAANG and others look like toys.

Today, $AMRS trades at a market cap of $1.6b. The financials are not all clear water, with the company currently losing money and diluting shareholders. However, the truth of the matter is that just its two leading consumer brands, Biossance and Pipette, valued at 5 times 2024 expected revenue, would be worth 4.9bn$ today. If we halve the revenue expectation, for instance, the brands would be worth $2.45b today.

Either way, today you can get $AMRS for less than or close to the fair price of its two leading brands and get the rest for free, including its at scale manufacturing prowess, its ability to pick the right molecules to commercialize and the other up and coming brands. What I am trying to say is that at 5$ per share, the downside is more than reasonable (thinking long term, of course).

Whilst it is true that cost synergies remain to be seen and that the brands need to grow considerably for $AMRS to get in the green, what we have seen so far suggests that the company can pull it off and additionally, the market is pretty much giving us free money to take on that risk.

$AMRS looks a bit like what I imagine $AAPL may have looked at some decades ago, with outstanding core technology and a growing ability to commercialize it. Evidently, $AMRS has a long way to go still, but the analogy is much deserved in my opinion, specially given the transformation nature of synthetic biology.

It is strange to see ARK not leaning into this company. I believe it has a lot to do with $AMRS being the $GPRO in the syn bio space, with its initial swirling fall and subsequent rise that the market is seemingly reluctant to acknowledge. I imagine that working in a corporate environment makes contrarian thinking harder than it already is. I have trouble going with the herd even for the good things so I hope I am not biased in the opposite direction here.

The general consensus is that companies that lose money are going to have a tough year in the markets in FY2022. This may be the case with $AMRS, but if the price continues to drop the investment will just get more asymmetric, with the long potential looking massive. The key aspect going forward for me is contribution margin. I plan on getting very very close to $AMRS going forward and will be sharing my updates with you all.

Until next time!

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You can also reach me at:

Twitter: @alc2022

LinkedIn: antoniolinaresc

Disclosure

These are opinions only of the individual author. The contents of this piece do not contain investment advice and the information provided is for educational purposes only and no discussions constitute an offer to sell or the solicitation of an offer to buy any securities of any company. All content is purely subjective and you should do your own due diligence.

Antonio Linares makes no representation, warranty or undertaking, express or implied, as to the accuracy, reliability, completeness or reasonableness of the information contained in the piece. Any assumptions, opinions and estimates expressed in the piece constitute judgments of the author as of the date thereof and are subject to change without notice. Any projections contained in the Information are based on a number of assumptions as to market conditions and there can be no guarantee that any projected outcomes will be achieved. Antonio Linares does not accept any liability for any direct, consequential or other loss arising from reliance on the contents of this presentation. Antonio Linares is not acting as your financial, legal, accounting, tax or other adviser or in any fiduciary capacity.