NDR takeaways - we expect the NAV discount to decrease, as DRI continues to successfully execute
TSX: DHT-U | CAD 7.43 | Outperform | Price Target CAD 14.00
Sentiment: Positive
Our view: We recently hosted a NDR with DRI Healthcare. The discussions focused on the improved financial outlook of the business vs. at the time of the IPO. The company has completed five royalty transactions and has deployed $345MM of capital since its IPO in 2021. The pace of capital deployment thus far has been ahead of the guided range of $650-750MM over a five- year period. The newly acquired royalties have resulted in a flat to increasing cash royalty stream through to 2025 vs. an expected sharp decline in cash royalties to 2025 at the time of the IPO (due to the expiry of existing royalties). Management noted an improved market for royalty transactions in the current macro backdrop with limited capital raises in the public markets. The stock is currently trading at a ~25% discount to NAV and we reiterate our Outperform rating. In our view, as the company continues to execute, the discount to NAV should decrease and the stock could eventually trade at a premium to NAV to reflect the optionality inherent in DRI's business model where cash flow from existing assets may be redeployed into acquisitions of new royalty assets on an accretive basis.
Capital deployment tracking ahead of schedule. DRI has deployed $345MM of capital since its IPO last year (excluding $56MM in potential additional milestone payments and options). The pace of capital deployment thus far has been ahead of the guided range of $650-750MM over a five-year period (at the time of the IPO). Based on the current pace, we expect DRI to exceed the guided range and view the capital deployment and completed royalty transactions thus far favourably.
Improved financial profile after completion of royalty transactions. After completing 5 royalty deals since the IPO, the financial outlook for DRI has improved materially with adj. EBITDA and cash royalties flat to improving through to 2025 vs. a sharp decline expected by 2025 in EBITDA and cash royalties at the time of the IPO (due to the expiry of existing royalties). In addition, the portfolio duration has increased from 8 years to 9+ years as a result of the new acquired royalties.
Greater opportunities for DRI. The current macro backdrop with limited risk capital (as observed in the decline in the number of IPOs and capital raises ytd) is creating a favourable market for DRI with pharma/biotech companies looking to raise capital via alternative financing such as royalty transactions. Management noted an increase in the incoming for royalty financing deals.
Competitive advantages. DRI conducts royalty transactions in the $25-200MM deal value range. The company believes that this particular segment of the market is underserved given the larger competitors do not focus on transactions of this size. DRI has built a proprietary database that tracks 6,500+ royalty opportunities on 2,000+ drugs. The company has an established team (along with few additions in senior roles) with strong institutional knowledge to source royalty deals.
Liquidity for additional royalty transactions. DRI increased its credit facility to $350MM in April earlier this year. After the closing of three royalty transactions in Q3/22, we estimate liquidity of ~$150MM available for future acquisitions based on existing credit lines. The company will also continue to generate free cash flow which will further increase the capacity for additional acquisitions.
Reiterate Outperform rating. The stock is currently trading at a ~25% discount to NAV, which we find attractive and we reiterate our Outperform rating. In our view, as the company continues to execute, the discount to NAV should close and the stock could eventually trade at a premium to NAV to reflect the optionality inherent in DRI’s business model. Cash flow generated by existing assets may be redeployed into acquisitions of new royalty assets on an accretive basis, with potential for long-term organic upside from expansion into new therapeutic areas or geographies vs. DRI’s expectation at the time of acquisition.