MGTA – Strategic Review – Upside TBD
NEW QUICK PITCH
Magenta Therapeutics (MGTA) – Strategic Review – Upside TBD
MGTA is yet another busted biopharma that trades at a wide 45% discount to net cash and has just announced a strategic alternatives review. Following the death of one of the patients in the trial, the drug development program was promptly halted and 84% of the workforce was laid-off, including almost the whole of the C-suite. All of this happened within the period of 2 weeks. Such a swift and decisive action by the board is rather unusual and increases the chances that shareholder value will be preserved. It is not clear if the liquidation of the company is in the cards, but here is how the math works out:
- Cash as of Dec’22 at $112m.
- Less $5.4m for estimated severance and related costs for the 84% of the personnel (as disclosed by the company).
- Less $9.3m for accrued expenses and accounts payable as of Sep’22 (part of these might have already been covered during Q4’22).
- Less $7m incremental cash burn 2023 YTD (just my conservative estimate based on previous cash burn).
- This leaves $90m of cash on the balance sheet today vs $50m market cap.
Out of these $90m, I still need to deduct the termination penalty for the lease of offices/laboratory as well as cash burn till the strategic review is concluded. On the latter, with the slimmed-down personnel and most of the high-paid executives already gone, I am penciling $4m cash burn till mid-2023 when I expect the strategic review to be completed. This compares to a $5m/quarter cash burn with full personnel and an active drug development program, so should be conservative enough. The bigger unknown is lease liability. MGTA is on a hook for $7m-$8m/year non-cancellable minimum lease payments till Feb’28, a total of $40m. Termination of such leases usually gets negotiated in exchange for a penalty equal to 1-year lease payment. Additionally, the landlord funded $5.2m in tenant improvements back in 2019 and might want at least part of this money back. Altogether, deducting $12m for the termination of the lease should suffice. The resulting math:
- $90m cash estimate today.
- Less $5m cash burn for the next 6 months till the strategic review concludes.
- Less $12m for lease termination.
- Leaves $73m net cash on the balance sheet, vs $50m current market cap.
Thus even with very conservative assumptions, there seems to be a sufficient margin of safety at current prices. The downside is very well protected while we await the conclusion of the strategic review.
The biggest risk is that the board will decide to pursue a value-destructive reverse merger (albeit not all of these turn out bad either, see CBIO). Could full liquidation of the company be in the cards? The swift action by the board in laying-off personnel and c-suite certainly looks promising in terms of shareholder value preservation. Also, during the strategic review period the company will be run by the previous CFO, who is also a partner at VC fund Atlas Ventures, a founder and 6.5% owner of MGTA. The other named VC funds have a further 31% stake – however, that is the case for most biopharma companies so not sure if this is anyhow indicative of incentive alignment. Finally, there is a tiny detail in how the announcement of the strategic review was worded – it specifically spelled out “an acquisition, merger, business combination” as potential alternatives, but did not separately mention the liquidation option.
For biotechs that are ~ $100mm+ cash shells, aren’t reverse mergers a 90%+ type probability?
Probably yes – that’s why this is just a quick pitch and not a high-conviction portfolio idea for me. But the difference in MGTA’s case is that most of the execs are gone. So at least in my eyes, the company has somewhat higher incentives to behave in a shareholder-friendly way.
Also, there is always a chance an activist will step in and steer the company to liquidation (see MTCR).
“But the difference in MGTA’s case is that most of the execs are gone. So at least in my eyes, the company has somewhat higher incentives to behave in a shareholder-friendly way.”
Thanks for highlighting that nuance, I think it’s material.
Clark Street writeup
http://clarkstreetvalue.blogspot.com/2023/02/magenta-therapeutics-trading-well-below.html
Before the announcement MGTA was trading at a much lower price to net cash ratio. I think there is a risk that a reverse merger results in it going back to those levels in expectation of further value destruction. The “vibe” is more like ANGN and less like SIOX I think.
The MOS does look reasonable though.
Thanks for the analysis of the leases too, much appreciated.
The announcement included not only the strategic review, but also a full halt of MGTA’s drug development program, meaning that cash burn will be far lower going forward. With a subsequent announcement of swift lay-offs, I think a smaller discount to net cash is well justified.
Having said that, there is always a risk it trades lower on any announcement of the reverse merger, especially if that transaction is perceived as value destructive.
Thank you, great post.
Is there a potential legal liability (due to the death of the patient) which could deplete the cash reserves further?
The Feb 7th filing is preliminary/ non-audited – so they may not have thought through this yet…
My understanding is that there should not be any legal liability. Death during drug trials is not that uncommon and there are mechanisms/concent forms to protect the pharma company.
As for cash balance, that is unlike to change materially in the audited numbers.
MTGA: Is there any potential dilution with accelerated vesting of RSU, stock options, warrants etc.? I looked through the latest 10Q, 10K and Proxy and as usual found it to be confusing so thought I’d ask someone which much more knowledge and experience to have a look too.
Thanks a lot :-)
I took a quick look. In the latest 10Q there are:
– 8.6m stock options outstanding
– 0.42m unvested RSUs
– 0.076m shares issuable under employee share purchase plan
These are issued under the 2018 stock option and incentive plan which was filed with the SEC in 2018.
I could not find the weighted average exercise prices for the options outstanding. However the plan stipulates that option exercise prices must be at least fair market value at the date of grant. And since the stock has gone nowhere but down over the last 3 years – it’s a fair assumption that exercise prices for all/ virtually all of these options are materially above the current share price.
The key takeaway for me is that dilution should be limited to the RSUs and ESPP shares or c. 0.5m shares in total. Others please chime in if you have a different view
Here are the outstanding equity awards:
https://www.bamsec.com/filing/119312522136711/1?cik=1690585&table=89
I agree with airnuk – dilution should be very limited. I had a quick look at MGTA options when analyzing the situation and if I recall correctly most of these are out of the money.
writser mentioned this from last week’s 10K in a tweet – liquidation appears unlikely relative to reverse merger etc.
On February 6, 2023, the Company entered into an agreement with Wedbush Securities Inc (“Wedbush”) to act as the Company’s exclusive strategic financial advisor in connection with a potential strategic transaction including but not limited to an acquisition, merger, business combination or other transaction. Upon the consummation of such transaction, the Company agreed to pay Wedbush a success fee of 1.0% of the transaction value with a minimum fee of $1.5 million.
Agree. Another passage from the 10K is insightful:
‘As part of the strategic review process, the Company is exploring potential strategic alternatives that include, without limitation, an acquisition, merger, business combination or other transactions. The Company is also exploring strategic alternatives related to its product candidates and related assets, including, without limitation, licensing transactions and asset sales. There can be no assurance that the strategic review process will result in the Company pursuing a transaction, or that any transaction, if pursued, will be completed on terms favorable to the Company and its stockholders. If the strategic review process is unsuccessful, the Company may decide to pursue a dissolution and liquidation of the Company’
ie. liquidation is the last option – which they will only pursue after all other options have failed. So we could be waiting a while for the liquidation… Other situations have taken upwards of a year…
all stock merger
https://finance.yahoo.com/news/magenta-therapeutics-dianthus-therapeutics-announce-110000570.html
if they dont get vote approval… what kind of distribution could be made (cant merge with someone else within 12 month of the “no” vote)
“The transaction has been unanimously approved by the Board of Directors of each company and is expected to close in the third quarter of 2023, subject to customary closing conditions, including, the approvals by the stockholders of each company and other customary closing conditions.” (Benzinga article). I guarantee they get the votes from Dianthus. Have to look at what the incentive of the Magenta majority stockholders is..
Unfortunate outcome for MGTA. Shareholders will receive only 21% of the combined company while contributing a third of the total capital into the new biopharma with a bunch of very early (phase 1) treatments. 11.5% shares are held by MGTA management and around 30% more is held by various VC funds. Given the recently implemented poison pill, any activist campaigns to block this deal are probably not likely. MGTA’s cash burn also seems to be bigger than initially expected in the write-up. The merger presentation says that MGTA will contribute $60m of cash vs $73m net cash estimated at the end of Q3. Overall, I’m surprised the stock fell only so little. I guess a large $70m PIPE financing from prominent biopharma investors (including Fidelity Management & Research) and cash runway into mid-2026 gives the market some confidence that this might turn out to be a good deal eventually?
Updated post on Clark Street:
https://clarkstreetvalue.blogspot.com/2023/06/magenta-therapeutics-likely-liquidation.html
With reference to your link I think the most pertinent comments are as follows:
vko007June 23, 2023 at 12:55 PM
Other than Tang, with these guys as top holders what are thoughts on the shareholder vote now that it’s clear it’s 50% of outstanding? 44% total here
Lion Point Capital LP 7.52
Citadel Advisors LLC 6.74
Atlas Venture Life Science Advisor 6.25
Atlas Venture Fund X LP 6.25
Alphabet Inc 5.51
Verition Fund Management LLC 3.62
Vanguard Group Inc/The 3.25
Western Standard LLC 2.37
Gardner Jason 1.56
TCW Group Inc/The 1.24
Reply
Replies
MDCJune 24, 2023 at 7:31 AM
The deal was announced in May, many of these shareholders might not own it any longer as most of these ownership levels are as of 3/31.
Reply
AnonymousJune 23, 2023 at 1:23 PM
This merger was announced 3-May. If any large shareholders objected, I would think they would file a 13D by now. Try to stop the expense of the merger. These are biotechnology investors, foremost. Perhaps they actually like the merger and its terms.
Reply
Replies
MDCJune 24, 2023 at 7:33 AM
Maybe you’re right. But the price action seems to tell a different story, current price is way below the implied deal price, which kind of tells you that traditional biotech investors aren’t into the target. And this might be too small for your typical activist fund. We’ll see what happens, but I think its fairly clear that investors should vote it down, whether they will, hard to say.
AnonymousJune 24, 2023 at 4:19 PM
Sometimes the price of a reverse merger candidate will not go up until after the merger is officially consummated. But obviously it’s not something to count on.
____
Based on the above I would like to hear any thoughts anyone may have. From this insight it seems like, on the balance of probability, a reverse merger is likely; in that case knowing the price relative to net cash of the merged entity is the key imo. That said, my preference is to invest in broken biotechs are are more than likely to liquidate, and avoid those that appear on a path to a reverse merger.
Imo hard to get a very precise guess on probabilities on price movement, but a few thoughts:
1) Lots of the “new holders” in MGTA after strategic review announcement are likely arbs with high preference for a liquidation, i.e. investors with little to no ability to value the new biotech. Thus any announcement of a “pure reverse merger” are less likely to be welcomed by the market (I know there are exceptions to this in other broken biotechs). If we compare to e.g. TALS, the reverse merger announcement were coupled with a dividend – don’t think it would be unreasonable to see a similar price movement in TALS had all the cash stayed in the co.
2) “Retail apathy” wrt voting is another very real factor here – one that favors a merger break (and thus maybe a liquidation).
For me personally I am holding my shares (but not “doubling down” as MDC) until a) after the vote or b) price gets a little less depressed – lots of volatility in these things, and discount now seems to protect downside somewhat (maybe)
The 13D filing point seems compelling given the following requirement:
According to the SEC, a Schedule 13D filing is required if an institutional owner acquires more than 5% of a company’s outstanding shares and intends to influence management decisions or engage in other significant activities. If the institutional owner objects to a deal, this may be considered a significant activity that triggers the filing requirement. It’s important to note that the specific circumstances of each case can affect whether or not a filing is required, and it’s always best to consult with legal or financial experts for guidance.
Interesting perspective from Clark Street, but estimating the probability of the merger getting voted down seems tricky. Clark Street is basing his argument mostly on the point that MGTA’s share price is now way below the implied deal value. However, the current stock valuation is in line with the pro-forma net cash of the combined company, which doesn’t scream undervalued, especially since the target’s candidate is still in phase 1 stage. One example is SYRS/TYME merger from last year. It also included a massive PIPE financing that even got oversubscribed. SYRS traded close to net cash (even slightly below) and shareholder approval was easily received.
From the comments at Clark Street Value MGTA needs over 50% of the shares to vote yes, they can’t just get a majority of shares cast. That seems like quite the high hurdle.