Codexis, Shell redraw the advanced biofuels map with global enzyme rights deal
Codexis, Shell redefine relationship; Codexis gains global rights; will lay off 133 staff; adopts anti-takeover measures; what does it mean for Shell, Raizen, Iogen, Codexis and Dyadic?
What does it say about strategic investors in advanced biofuels?
In California, Codexis announced that Shell has granted Codexis a royalty-bearing, non-exclusive license to develop, manufacture, use and sell cellulase enzymes developed under the companies’ Amended and Restated Collaborative Research Agreement. The scope of the New Agreement is worldwide, except Brazil, for enzymes used in the biofuels field. Codexis already has exclusive rights to commercialize its cellulase enzymes in other fields.
Codexis rights, Shell royalty
In exchange for these new rights, Codexis will be obligated to pay Shell a low single-digit percentage royalty on net sales of CodeXyme cellulase enzymes to customers other than Shell and its affiliates. Codexis will also be obligated to pay Shell a low single-digit percentage royalty on Codexis’ own use of cellulase enzymes in the biofuels field. Shell is also entitled to preferential pricing on purchases of cellulase enzymes from Codexis should the companies mutually agree to enter into a future supply arrangement.
Codexis and Shell have agreed to an early termination of the Shell Research Agreement, effective now, and Shell will pay Codexis approximately $7.5 million in satisfaction of remaining R&D payments. Codexis also remains eligible to receive a one-time $3.0 million milestone payment upon the first sale or use by Shell of such enzymes in the biofuels field in Brazil, or in other fields of use previously specified in the Amended and Restated License Agreement between Codexis and Shell.
The Shell Research Agreement would have expired on November 1, 2012 if not for the early termination effected by the New Agreement.
Shell’s 10-year rights
Shell has also agreed under the New Agreement not to sell any cellulase enzymes to third party biofuel customers using technology developed by Codexis. Shell retains its right to use and manufacture such enzymes, including those enzymes that result from Codexis improvements during the ten-year period beginning on August 31, 2012, for Shell’s own use and use by Shell affiliates, as well as to sub-license the right to manufacture such enzymes to third parties for Shell’s own use.
Codexis to lay off 133 employees
Codexis today announced a workforce reduction of 133 employees effective October 30, 2012. All affected employees will receive advance notice of their employment loss in accordance with applicable law. Codexis estimates that it will incur total charges of up to $3.6 million in the second half of 2012 as a result of this workforce reduction, including $2.9 million in continuation of salary and benefits of the affected employees until their work is completed and their positions are eliminated and $0.7 million of one-time termination and miscellaneous costs, all of which will result in future cash expenditures.
Codexis shareholder rights plan
The Board of Directors of Codexis announced today that it has adopted a short-term shareholder rights plan, which is scheduled to expire on September 2, 2013.
The rights plan is intended to enable all of Codexis’ stockholders to realize the underlying value of their investment in Codexis by guarding against inadequate or unsolicited takeover offers. The rights are not being distributed in response to any specific effort to acquire control of Codexis. The rights are designed to ensure that the Board of Directors has sufficient time to consider any proposal and make sure that all stockholders receive fair and equal treatment in the event of any proposed takeover of Codexis.
In addition, the rights plan will guard against partial tender offers, open market accumulations and other coercive tactics aimed at gaining control of Codexis without paying all stockholders a full control premium for their shares.
Under the plan, one preferred stock purchase right will be distributed for each share of common stock held by stockholders of record on September 18, 2012. Subject to certain exceptions, the rights will be exercisable if a person or group acquires 15% or more of the Company’s common stock or announces a tender offer for 15% or more of the common stock.
Reaction from Codexis
“Codexis has developed some of the most cost effective and competitively advantaged cellulase enzymes in the world. Securing the rights to market these enzymes to advanced biofuel companies outside of Shell is a major milestone for the company,” said John Nicols, President and CEO of Codexis. “We also remain focused on the Brazil market, where our discussions with Raízen continue regarding commercialization of our cellulase enzymes for second generation ethanol production.”
Analyst reaction
Piper Jaffray’s Mike Ritzenthaler writes:
Shares of CDXS are down 50% since February 21st, and at this point we believe that most of the news around the new relationship with Shell has been priced in. Over the next 2-3 years, we expect essentially all of the value of the company to be derived from pharma sales. With the lack of clearly defined catalysts (either positive or negative), we have elected to take a Neutral stance. As a result, we have elected to upgrade shares to Neutral, while maintaining our $2 price target. The new agreement stipulates a ‘low, single-digit’ royalty percentage to be paid to Shell out of any future net sales of CodeXyme to third-parties, with no apparent sunset. However, winning new business for CodeXyme will be very difficult, in our view, given the nature of the enzyme supply agreements already in place for current cellulosic biofuel projects.
• New agreement eliminates Shell backstop. Codexis announced yesterday that, as of August 31st, they are free to pursue global opportunities for fuel applications of CodeXyme, and have agreed to pay Shell a percentage of all future net sales. The royalty payments are a mechanism for Shell to recoup their approximately $375 million investment in the development of cellulase enzymes, though it is yet unclear whether the royalty provision has a sunset. We have revised our model to include a final $7.5 million FTE/milestone payment from Shell in 3Q12, and ~$1 million in one-time expenses related to the workforce reduction in 4Q12. In 4Q12 through the end of FY14, we have included revenue contribution only from the pharmaceutical segment.
• Although Codexis can now pursue global fuel opportunities, there are likely no more prospects with or without exclusivity with Shell. As far as Raizen goes, we believe the 2-year development window for 1st gen technology speaks volumes about the conservative nature of Raizen’s management and operations. Cellulosic biofuels could take 2-3x the time to implement (at best) due to the complexity, the need for an intermediate scale, and Raizen’s cautious approach. Projects outside Brazil may take even longer than those with Raizen, since the cellulosic ethanol plants currently under construction already have a contracted enzyme producer, and the next slate of projects likely won’t come on-line until 2016 at the very earliest.
The Digest’s reaction
We have two thoughts to add – one on the nature of strategic partners and strategic partnerships as a whole. A second, some thoughts on where we believe Shell, Raizen, Iogen, Dyadic and Codexis are headed – in lieu of the companies being able to offer a comprehensive roadmap at this time. We think this does not signal that Shell is abandoning the field – rather, that it is centering its efforts on sugarcane bagasse.
On Shell, Raizen, Iogen, Codexis and Dyadic
The second, first. Our thesis is that, rather than abandoning cellulosic ethanol and the enzymatic path to advanced biofuels, Shell is advancing from supporting R&D to supporting commercialization, via Raizen, its joint venture in Brazil with Cosan.
We note, for example, that Codexis can assign rights to an acquiror. However, “any such assignee is required to undertake a certain level of effort to further develop CodeXyme cellulase enzymes, make certain payments to Shell, or otherwise elect to give up its cellulase enzyme license grant from Shell.” We see that as clear evidence of Shell’s intentions to have someone else take up the long-term R&D effort while Shell focuses on commercialization.
(We also note, in another signs of its intentions in Brazil, that Shell built its own pilot plant in Houston to work with Virent’s technology. Now, Virent has its own pilot, so why build one? Our take is that Shell is unwilling to stand in line as Virent juggles campaigns for a variety of investors and clients, such as Coca-Cola)
We expect that Raizen will announce that it will utilize (presumably Codexis-based, and expressed through the Dyadic C1 platform) a C6 enzyme for sugarcane bagasse – and that Raizen and Iogen will ultimately build a plant to support that technology path in Brazil. We further expect that there will be a second path announced with respect to C5 sugars – and that additional partners may well be involved.
Ourselves, we don’t see conservatism in the Brazilian market or at Raizen in particular – we see all kinds of urgency, tempered only by the fact that they are hard-nosed business people who work in two brutally competitive commodity markets.
First order of urgency, sugar prices are high – producers would like to maximize output. But the Brazilian government has lately, through ANP, acquired substantial regulatory influence over biofuels, and that means that to extent that it has acquired some influence over the global sugar trade. Brazil is the world leader in sugar production, and that production occurs at integrated sugar/ethanol facilities.
Diverting as much production to sugar as possible? That’s not the solution that Brazil wants to hear. It puts pressure on oil imports and fuel prices – unpopular.
Long-term, Brazil needs cellulosic production and producers need it too if they are to take advantage of good sugar prices and meet the home fuel needs, too – and make a case that production expansion is a good thing not only for producers, but the country as a whole.
Codexis as acquisition target
Let’s face it – Shell has invested $375 million in developing cellulase enzymes, the company has a small but lively business in pharma enzymes – it now has freedom to operate anywhere excepting Brazil where it has a mighty partner/investor in Raizen. Management has been rebuilt. Painful steps to maintain liquidity have been taken. All that, and the company’s market value is $81 million. If ever there was a ripe takeover target in biofuels enzymes, this is it.
On strategic partners
Here’s the problem with big strategic partners for small, early-stage companies – and one of the reasons that, for many years, VC firms didn’t want strategics along for the ride in venture development: strategics change strategy, and small changes at big companies result in big changes for small companies. What is a ripple in the water to a giant is a tsunami to a fly.
Often, strategy must shift as the result of weak earnings, weak economies, or large-scale acquisitions that come with collateral businesses that must be rationalized, cleaned up, or otherwise fitted under the corporate umbrella. Personnel changes at strategics can have colossal impact on small companies, too. Or just painful rounds of rationalizing investments, after the pleasant couple of years making them.
You can see it with Shell, for example. There were the fun years. Shell invested in Cellana, Iogen, Codexis, and Virent, just to name several high-profile advanced biofuels ventures. We’ve seen big changes with the first three – that end up causing headaches for the other partners, or management, trying to explain why the relationship has changed – constrained by confidentiality, disclosure rules – often, a highly beneficial change is practically impossible to explain in the positive light it can and should be seen in.
For the last couple of years, strategics have been the darlings of biofuels companies – who have been waving them like crazy at investor and industry presentations. Well they should be proud of them, as those relationships are hard to gain, hard to sustain. They have brought not only dollars, but access to markets, and validation of the technology.
But we expect that we have not seen the last round of rationalization by a major strategic – perhaps not even the last major announcement this month. Watch those companies that have had their strategics on board for three-years or more. It’s hard for strategics to make shifts in less than three years without looking unserious – without the data to make decisions – but three-year time windows are usually enough for portfolio rationalization to occur. Not to mention that effective corporate godfathers often move up or out within three years.
For the smaller company, it is often a blessing in disguise. Though as Winston Churchill was wont to observe, “as a blessing, it is very effectively disguised.”
The most vulnerable of strategics – generally, upstream.
Strategics who are investing because they wish to provide new technologies and products to their existing customer base – well, that is a little like a financial investor, isn’t it – the decision to invest is driven by customer demand than can be readily monetized.
Strategics who are investing because they see opportunities to commercialize their feedstock – these would be broadly more vulnerable to shifting strategy based on a) finding other technologies, or b) feeling that downstream markets, which involve other partners, are not evolving as fast as envisioned, putting a strain on the ROI case for the ongoing investment.
So – it is a double-edged sword. Broadly, it is near-to-impossible to complete a Series C or D venture round these days without a solid strategic partner in the mix. But, companies might well watch that three-year window.
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