DRI Healthcare Trust T.DHT.UN

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May 17, 2023

DRI Healthcare Trust
Highlights from the RBC Global Healthcare Conference

TSX: DHT-U | CAD 9.45 | Outperform | Price Target CAD 17.00

Sentiment: Neutral

Emmanuel Coeytaux, EVP, Strategy & Chief Operating Officer and Navin Jacob, EVP, Investments & Chief Investment Officer of DRI Healthcare Trust, presented at our conference this afternoon. Our discussion primarily focused on: a) the due diligence process at DRI; b) potential returns on royalty transactions; c) competitors and d) counterparties. The company has $250MM in available liquidity to be deployed in future royalty acquisitions. The current deal pipeline stands at $2B and management expects to increase it to ~$3B over the next few months. We rate DRI Outperform with a C$17 PT.

Background of DRI, historical returns and 2021 IPO. DRI was established ~34 years ago in 1989. The company was initially public but was taken private in 2002 by the current CEO (Behzad Khosrowshahi) and his family. The company operated as a private investment vehicle for most of its time since 2002 with three funds successfully deployed ($500-750MM of capital deployment with unlevered IRRs of ~18%-20%). The company went public again in Feb 2021. The Trust has deployed ~$500MM since its IPO. Management noted that the cash deployed by the company in the last ~1.5 years is similar to the level deployed over a ~5-year period prior to the IPO. The Trust has a high cash generation ability and the business model relies on redeploying cash (ex-dividend, ~20-30% of cash generated is paid out as dividends) into new royalties resulting into a compounding effect.

Due diligence process: Management noted that they start with a very wide and broad scope with ~1,000s of assets across different therapeutics areas and take a funnel approach to arrive at a set of assets where the company performs full diligence in the second stage. Management noted that they are extremely selective and there is a ~5% conversion rate for the deals in the second stage. The diligence process involves multiple different verticals (clinical, regulatory, manufacturing, commercial, etc.). DRI makes detailed market models and noted that every variable is based on an evidence-based approach. The primary market research that DRI performs is similar to the research done in the pharmaceutical industry. Management noted this is followed by structuring of the deal, which is different from the diligence process and requires understanding of the counterparty and the eventual marketers of the product.

Potential returns on royalty transactions. Management noted that the deal environment is more favourable today vs. five years ago. There is significant interest for royalty financing primarily due to the state of the public markets today. Many biotech companies went public over the last five years and are in need of cash. Management noted ~2/3 of non-profitable biotechs have less than 2 years of cash runway and there is a need for financing but equity markets are currently not conducive to providing that capital. As such, these companies are approaching DRI for non-dilutive funding at relatively attractive terms for DRI. The historical returns on royalty transactions range from high-single digit to mid-to-high teens and in the current environment, DRI is seeing potential returns on the higher side of the historical range.

Key competitors. Management noted that DRI is similar to Royalty Pharma (RPRX; not covered) in some aspects and different in others. DRI typically invests ~$25-200MM per transaction vs. Royalty Pharma which invests in larger transactions. As such there is limited overlap in potential deals. However, DRI is similar to RPRX in terms of the structuring of the deals (equity-like features with upside potential). Some of the more direct competitors like OrbiMed and HealthCare Royalty Partners focus on similar deal sizes as DRI; however, the deal structure by these direct competitors has more debt-like features unlike the transactions undertaken by DRI.

Recent Tzield royalty transactions; Deal pipeline. DRI sold the Tzield royalty for $210MM, ~45 days after purchasing it for an upfront payment of $100MM. Management noted that it is a once-in-a-decade type of transaction, highlighting the unusual nature of this deal. Nonetheless, the Tzield deal has provided the company with a capital influx to be invested in DRI's existing pipeline which stands at ~$2B. Management noted that they expect to increase the pipeline to ~$3B over the next few months.

Counterparties. Management noted that historically ~65% of the deals were with academic institutions and inventors. However, the company is now expanding its presence with corporate counterparties as evidenced by recent deals. The corporate counterparties are typically SMID cap biotech companies where there is not only a cash need but also trapped value. Management noted that DRI's recent deals have helped to unlock value at some counterparties (Omeros, MacroGenics, CTI BioPharma - all three have outperformed XBI). This creates a feedback loop with more companies wanting to transact with DRI.

Leverage. Management noted that the company would target ~3x leverage over the medium term. After the Tzield royalty sale, DRI has ~$250MM of available liquidity to deploy in future acquisitions.