Instem (INS): the Halma of biotech software?

[Diogenes]

I have just taken a quick look at Instem (INS) as it’s shareprice has doubled this year. This is about the only analysis I have seen and it is only a screen!

It might be the Halma of biotech software companies, as it is a serial acquirer of companies in its own area of expertise. Here are the results of a cursory scan - I apologise if it is all old news, but the company seems slightly obscure.

Market cap £180m
PE 42.7 (3 year average 16.2)
Earnings yield 2.3% (3 year average 6.4)
ROCE 10.4% (3 year average 5.4)
CROCI 17.6% (3 year average 6.1)
EBIT margin 11.5% (3 year average 4.4)
FCF conversion 130% (3 year average 36. 8)
Debt/capital 7.1%
Pen/mcap 2.1%

£15.4m share issue in 2020
Cash at 30/6/21 £17.9m and debt £2.4m

Last 4 years EPS
4, 8.7, (5.7), 11.6 wonder what happened in 2020?

FCF/share
(1.5), 3.2, 19.1, 24.9

Piotroski 5, so dead average
5 year CAGR share price 30.1%

Institutional shareholders ~ 40%, incl Liontrust, Gresham House, Standard Life Aberdeen, Nova Life Sciences, Eiffel, Chelverton, Lombard Odier

Directors have ~ 10%

Clearly a company on an arc of improvement in its financial metrics but the share price has raced ahead. It produces cash. It might be worth a deeper dive.

Has anyone else dabbled here? Could it be a 100 bagger?

[Ben123]

Hi Graeme
The company adjusted eps (almost every year) would be enough to put me off this one, unfortunately.

That, combined with the granting of over 74,000 of options just this year, on top of other existing options for each of the ceo and cfo. £nil to be paid for those granted this year and equivalent amounts last year. To put that into context the share price is over £8 per share and post tax profit is only £2.3m. There is no mention I can see in the remuneration report of the vesting criteria for these share options.

I don’t feel like ordinary shareholders get a fair crack of the whip with this one? At the very least the vesting criteria of the share options should be disclosed within the remuneration report, of the annual report imo.

Regards

Ben

[Diogenes]

Thanks Ben, I was wondering whether it would be a good idea to delve into the annual report. You make some very good points. I was trying to work out why the Sharepad eps numbers in the detailed reports bore no resemblance to the “one page summary” but now I know. Those adjustments are just rubbish!

[Ben123]

Hi,
You may be a little harsh?

The adjustments are mainly intangible amortisation after business acquisitions, acquisition costs and goodwill impairment.

For example for the year ended Dec 2019, they got from an adjusted ebitda profit of £4.8m to a traditional ebitda loss of £200k due to the adding back the amortisation of intangibles and £3.2m of goodwill impairment.

On the other hand, maybe the acquistions are throwing off cash now and it is the start of great things?

It’s too complicated for me, though!!

Regards,
Ben

[Diogenes]

Sometimes it helps just to look at cash-flows, doesn’t it

[Diogenes]

I have started to get into the annual reports. I was stimulated to do this by looking at the ROCE reported on Sharepad and finding out that the figures they show cannot be derived from the income statement and balance sheet data that they summarise! So, I have created my own data. This has also allowed me to isolate the effects of acquisition accounting because I can calculate the Return on Operating Capital (excluding goodwill and amortisation) and the Return on Total Invested Capital:

	2020	2019	2018
ROCE Sharepad	10.4	1	10.9
ROCE calculated	8.7	-3.3	10.1
ROOC	12.9	17.5	23.7
ROTIC	8.1	8.2	10.1

So my ROCE numbers are not as good as those on Sharepad but, more significantly, the acquisitions are not making much of a difference to operations and there is a distinct impression that they are over-paying. The returns look much better if you strip out goodwill and amortisation - ROOC. These numbers are on a declining trend and don’t look spectacular. If then you add back goodwill at cost to calculate ROTIC, you again see a deteriorating trend.

A tentative conclusion is that Instem has got a lot of work to do to turn into a quality company. I would like to see a ROTIC that is both growing and north of 10%. In this context, it is interesting that they are not amortising goodwill - only in 2019 was there an impairment charge.

PS Thanks Maynard for sorting out my formatting

[Ben123]

On Return On Capital, capital turnover down:

I guess there are only so many biotech related software companies you can buy before incremental returns decrease.

At least most of the capital employed is Equity rather than Debt, but inferior utilisation of Equity has a cost of itself, I think:

Also over the past couple of years, a large portion of the increase in operating cash flow has been due to the squeezing of supplier payments.

You may be getting the impression I don’t like this company, particularly

Regards

Ben

[Diogenes]

You are talking me into it! The trouble is that I am now querying the Sharepad data. I will wait for the next annual report before I decide. But I have learned a lesson: don’t take Sharepad on trust… You need to look more closely. It has motivated me to look at the wordy bits of Instem’s annual report, and yes the directors’ remuneration bit is much shorter than most. It’s also very vague. What are the terms and conditions for options vesting?

I will continue to monitor them because, intuitively, it’s a good niche to be in. But I’m not sure I trust them