Nanoco Group a year of steady progress

Nanoco Group

Nanoco Group plc (LON:NANO), a world leader in the development and manufacture of cadmium-free quantum dots and other specific nanomaterials emanating from its technology platform, has announced its preliminary results for the year ended 31 July 2021.

Operational highlights

·    Delivered all technical milestones for our important European electronics customer

·    Signed major new Asian chemicals customer for novel materials in sensing applications

·    Completed restructuring of the business around core competencies of R&D, scale up and production

·    Continued good progress in our legal action against Samsung for wilful infringement of our IP

·    Debt issuance of £3.0 million completed in July 2021 to protect cash runway and value in organic business and the Samsung lawsuit

·    Moved from a “single customer, single product” position to one in which the Group now has multiple customers and eight distinct materials.

Financial highlights

·    Group revenue at £2.1 million (2020: £3.9 million). Decrease due to the completion of the contract with the US Customer in the prior year

·    Organic cash runway extended to H2 2022, maximising the Group’s chances of delivering significant organic value and litigation upside value in the coming years

·    Adjusted operating loss marginally better than prior year at £4.6 million (2020: £4.8 million), despite reduction in revenue

·    Cash of £3.8 million at year end with gross monthly cash costs c. £0.4 million, following substantial and continuing reduction of the cost base

Brian Tenner, Nanoco Group CEO, commented on the results:

“This has been a year of steady progress for Nanoco. We met all existing customer milestones and added new strategic customers, whilst significantly expanding our range of nanomaterials for sensing applications and their addressable wavelengths. 

“Our extensive efforts on the litigation against Samsung for the alleged wilful infringement of our IP have continued. The outcome of the claim construction hearing (or “Markman”) was very positive for Nanoco: we won the argument on four of the five patents in the case and the fifth had each side win one construction each.

“We retain our core competencies and capabilities in R&D, scale up and production and have a small and focused team dedicated to bringing our nanomaterials to market. The opportunities to create significant shareholder value in our organic activities and the Samsung litigation in the short to medium term, are clear and compelling. The Board therefore remains confident in the strength of the investment proposition and value inherent in the business.

Chairman’s statement

This has been a year of steady progress for Nanoco. We delivered all existing customer milestones and added new strategic customers. We substantially reduced our cost base, starting with the Board, and the broader team has been re-shaped while retaining our core competencies. In parallel, we have successfully progressed our litigation against Samsung.

Strategy and business activity

We have significantly expanded our range of nanomaterials for sensing applications and their addressable wavelengths for a variety of potential sensing applications. We have moved steadily from a “single customer, single product” position in sensing to one in which we have multiple customers and eight distinct materials.   This expanded range of market leading materials will support more stable revenue growth over the medium term.

While sensing applications are our current primary focus, we also continue to work with partners in display, horticulture and life sciences.

Completion of restructuring activities during the year has allowed us to retain a skilled and focussed team that is able to deliver R&D, scale up and production at scale from our Runcorn facility.

Samsung litigation

Our extensive efforts on the litigation against Samsung for the alleged wilful infringement of our IP have continued. The outcome of the claim construction hearing (or “Markman”), held in March 2021, was very positive for Nanoco: we won the argument on four of the five patents in the case and the fifth had each side win one construction each.

Once the Patent Trial and Appeal Board (“PTAB”) took the decision in May 2021 to review all five patents in the case, it became clear that our best strategy for the case was to agree to a deferral of the trial until after the PTAB issues its ruling on patent validity – expected by May 2022. This approach simplifies the trial process and increases potential damages from allegedly infringing TVs sold by the time of the trial.

Our third party funding partner continues to support all aspects of the lawsuit, including the parallel patent review process. This allows us to focus our financial resources on our organic business activities.

Covid-19 and financial performance

Through the sterling efforts of our staff we were able to maintain Covid-19 secure customer-focused output in both of our facilities. This allowed us to meet all technical milestones and material deliveries on time.

The Board responded promptly to the Covid-19 pandemic, leading the way with reductions in Directors’ salaries, followed by Company-wide temporary pay reductions. With the benefit of restructuring during the year and new commercial business wins, we were able to reverse most staff salary reductions in October 2020 (and in April 2021 for the leadership team).

Monthly gross cash costs are now stable at around £0.4 million per month. With revenue running at between £0.2m and £0.3m per month, the cash burn has been substantially reduced compared with the prior year.

The debt issue in July 2021 extends the Group’s cash runway past the initial result of the PTAB and the expected re-scheduled trial in H2 2022. The Board formed the view that the Company’s share price did not fairly reflect the value potential within the Group and therefore a non-dilutive debt issue, instead of a highly dilutive equity issue, was in the best interests of all shareholders. Importantly, the debt issue also extends the organic cash runway to a point when we expect to have visibility on potential production orders in the short to medium term – a key strategic priority.

No dividend is proposed for the year (2020:none)

Governance and Board

During the year, we took decisive steps to reduce the size and cost of the Board, to make it commensurate with the scale of the operations. The cost of the Board is now broadly half that of the prior year. Executive Director salary reductions remained in place for a full year up to March 2021. The Non-Executive Directors now defer 35% of their salaries until there is a significant improvement in the Group’s financial condition.

Brian Tenner, the previous COO and CFO, was appointed as CEO on 1 September 2020. This planned succession reflects the positive impact Brian has made on the business since his appointment in August 2018. As previously announced, Michael Edelman stepped down from the Board as CEO with effect from 1 September 2020. He remains available to the Group in his part-time role of Special Adviser to the Litigation Sub-Committee.

Nigel Pickett’s notice as CTO was rescinded in March 2021 (having been served in March 2020 as a pre-emptive potential cost reduction measure). Nigel remains critical to the development of our new materials and the ongoing litigation against Samsung.

The smaller Executive team of Brian and Nigel successfully oversaw the delivery of growing commercial opportunities and important development programmes during the year. They have been ably assisted in their efforts by Liam Gray as UK Finance Director and Company Secretary, Kevin Smith as UK Operations Director and the whole of the senior management team.

Just after the year end we welcomed Henry Turcan to the Board as a new Non-Executive Director. Henry is a representative of our major shareholder, Lombard Odier, and brings extensive and valuable experience of capital markets and funding for companies at Nanoco’s stage of evolution.

Employees and shareholders

Our staff have again demonstrated great commitment in a challenging year. With more tasks inevitably shared amongst a smaller team, excellent customer service and on time delivery of milestones and material orders have been maintained. This has only been possible through the continued dedication and application of all of our staff. The Board is immensely grateful to our staff for their continued commitment.

I would also like to thank our shareholders for their continuing support. We are very much aware that the Group will continue to burn cash in the near term, as we pursue our goals of building the commercial business while defending our IP through litigation. I look forward to engaging with as many shareholders as possible at our

AGM to be held on 30 November 2021.

Outlook

The Board remains convinced of the strong merits of our broad-based platform technology. The programme with a major European electronics company has the potential to move into commercial production in the short to medium term, subject to the delivery of technical milestones and final customer adoption of the associated technology.

The new development programme with a significant Asian chemical company announced in July 2021 also has the potential to follow a similar path, albeit on a slightly longer timeframe.

It remains the case that our current programmes are still subject to risks of failure in other parts of the supply chain or a decision by final customers not to adopt the technology that uses our nanomaterials. As a result, we reiterate the material uncertainty around the timing of future revenue streams.

The litigation against Samsung has significant potential to transform shareholder value. We therefore retain contingency plans to protect our “IP shell” and the potential value in the litigation if we cannot create a self-financing organic business in the medium term. We retain our core competencies and capabilities in R&D, scale up and production and have a small and focused team dedicated to bringing our nanomaterials to market.

The opportunities to create significant shareholder value in our organic activities and the Samsung litigation in the short to medium term, are clear and compelling. The Board therefore remains confident in the strength of the investment proposition and value inherent in the business.

Dr Christopher Richards

Chairman

3 November 2021

Chief Executive Officer’s statement

We have made a number of advances this year in building foundations for potential future value creation. This was achieved despite the continuing challenges of operating in a Covid-19 secure way with unpredictable impacts on staffing due to isolation requirements. The commitment of the team to service our customers and to step up and adopt new responsibilities cannot be faulted.

We grew our pipeline of customer opportunities throughout the year, particularly in infra-red sensing markets. We have also continued development work with customers in the display field using our CFQD® quantum dots which are also relevant for lighting and life sciences opportunities.

The litigation against Samsung for the alleged wilful infringement of our IP has taken significant effort on the part of a small number of team members. The Board is very pleased with progress in the last year and remains confident in the strength of our position and that transformative value can be generated for shareholders if the outcome is successful.

The year finished with a non-dilutive debt issue to extend the cash runway for the organic business and to strengthen the Group’s balance sheet for the litigation process.

Business performance

Electronics

In the first half we achieved all development milestones for our major European electronics customer. A second scope of work was added early in the second half and this was completed successfully just after the year end. We also added additional customer relationships throughout the year with the most notable being a very significant Asian chemical company that supplies advanced materials to global electronics supply chains.

Deliveries for these customers underpinned our revenue for the year and allowed us to finish the year with revenue of £2.1 million in line with Board expectations, having started the year with a contracted order book of £1.0 million. Both of these large customers have the potential for demand volumes that could move the Group significantly towards our goal of becoming self-financing in the medium term. Both relationships are part of our strategy to diversify our commercial risk.

Our offering of nanomaterials for use in sensing applications has moved from a single customer/single product in early 2018 to a position today where we are engaged with five customers and are working with eight distinct materials/ wavelength combinations. Nigel Pickett is leading our ongoing efforts to expand this further to cover multiple material sets in all of the key operating wavelengths, specifically targeting bands such as 1,400nm, 1,550nm and 1,800nm.

The mega-trends seen in electronics, automation, automotive and the Internet of Things more generally continue to be very favourable and support our strategy of adding our nanomaterials to silicon based sensors to significantly enhance their performance and overcome a number of current challenges faced by those devices.

Given the scale of these sectors and the other market participants, we are often going to be part of an extensive supply chain.  This does mean that we are subject to events and decisions outside of our control – as happened with the US Customer last year – but it also means the potential is very high to deliver significant value if our materials make it into commercial production.

Delivery of technical milestones during the year has moved a number of programmes closer to potential scale up and commercial production. Indeed, already published customer product life cycles suggest we may have good visibility of potential commercial production by the second half of calendar year 2022. While our current activities are more heavily weighted towards development work at this stage, possible scale up activity may occur in FY22, depending of course on the continued successful delivery of technical milestones by Nanoco and ongoing support for these projects by our customers and the ultimate adoption of the technology by the final OEM’s in the supply chains.

Our small scale allows us to be much more agile and responsive to our customers’ needs than many other players in electronics supply chains. The in-depth nature of our technological insight also means that we do tend to “punch above our weight” in terms of direct engagement even with very large end customers and their technology teams. Conversely, our scale does present challenges for customers in terms of supply chain risks and we work proactively to agree commercial solutions to the issue of supply chain diversity.

Display (CFQD® quantum dots)

Display remains an important target market for Nanoco. We have maintained our focus on our “dot only” strategy where we aim to provide the highest performing CFQD® quantum dots.

Activity in Display reduced following the end of our collaboration with Merck. Merck has announced its intention to continue investing in electronics materials that may create opportunities for Nanoco in the future but at present, there are no ongoing commercial activities between the two companies. We continue to seek out new relationships and a number of these are moving forward at a small scale.

A number of small R&D projects were delivered for customers during the year. We hope that the final decision to end the Restriction of Hazardous Substances (“RoHS”) cadmium exemption for film based displays will soon be legislated and will provide fresh impetus to display panel manufacturers to embrace the benefits of our CFQD® quantum dots. While the European markets currently only see limited sales of cadmium-based QD televisions, the focus of growth on cadmium-free solutions may provide a helpful tailwind.

We retain our core capabilities to deliver display R&D services, scale up and commercial production of material from our Runcorn facility. We are therefore well positioned to take advantage of any broadening in the adoption of non-toxic quantum dots by global display manufacturers when the opportunity arises.

A successful outcome to the litigation with Samsung will also positively affect our ability to derive income from our capabilities in display, whether in production, further robust defence of our existing IP portfolio, or the future licensing of our technology.

We continue to adopt a dual approach to commercial exploitation of our display materials. We are still ready to license our technology to different channel partners but also retain our own manufacturing capability.

Life Sciences

In November 2020, the Life Sciences team secured a grant from Innovate UK, the UK’s innovation agency, for a life sciences project to develop a heavy metal-free quantum dot testing kit for the accurate and rapid visual detection of Covid-19. The project builds on Nanoco’s existing capabilities in utilising quantum dots conjugated with antibodies as a diagnostic tool in the detection of cancer (VIVODOTS® nanoparticles). The project specifically focuses on antibodies for Covid-19. However, as is the case with our other materials, our goal is to create a platform technology that is applicable to other pathogens and potential future variants of Covid-19. The project therefore remains relevant despite many other tests now being available on the market for Covid-19.

The project is scheduled to complete in May 2022 with a working prototype. Good progress has been made to date with VIVODOTS® conjugated with the appropriate antibodies successfully detecting the presence of the target pathogen at the required level of sensitivity to proceed to the next stage of the project. We are now working with a device partner to create a functional device which will then be subject to industrial design to create the functioning prototype. The project is an exciting adjacent use of our technology platform. Any medium term value implications will be wholly contingent on the successful delivery of the targeted project outcomes.

Other sectors including lighting

Following the need to restructure and downsize the business, our core focus is primarily on near-term sensing opportunities. Where there is an immediate substitution opportunity we will continue to proactively engage with other sectors such as horticultural applications that utilise the platform technology of our CFQD® quantum dots.

Operations

In the early part of the year, in order to conserve our cash, the Group completed the restructuring exercise that started at the end of the prior year. A further small scale restructuring took place in the second quarter.

Our resulting team now numbers approximately 39 staff and we have cut our installed cash cost base from over £12.0 million in FY19 to around £5.0 million for FY22. Critically, we have managed to retain our core capabilities in R&D, scale up and manufacturing, including both facilities at our Runcorn site. This is essential to deliver the business growth we hope to achieve in the short to medium term.

Activity in our production facility at Runcorn has focused on supporting the higher demand levels we are seeing for sensing materials from our R&D facility in Manchester. Our scale up team has been re-trained to be able to operate the slightly larger scale reactors in Manchester when customer demand has gone beyond the normal small laboratory scale orders.

The Display facility in Runcorn is currently mothballed to conserve cash but can be re-started at short notice. It also has the potential to support sensing activities if multiple orders for different materials are received at the same time. Our flexible production team is trained to be able to operate both facilities to maximise our capability while minimising costs in the short term and maintaining our significant production revenue generating capacity.

Responding to Covid-19

During the current Covid-19 pandemic, we continue to focus on protecting the health, safety and wellbeing of our employees while mitigating ongoing economic challenges. We have put together a series of measures that allow us to continue to meet customer needs from our Manchester R&D facility with support from our Runcorn site as required.

Our Runcorn site has lower activity levels and our facility for the large scale production of CFQD® quantum dot has been temporarily mothballed. Other essential work is being carried out remotely and no members of staff are using the Government’s furlough scheme.

Our reduced headcount and the layout of our split facilities make it easier to follow many of the recommended practices for the return to work. Having completed detailed risk assessments and implemented the resulting action plans many staff have now safely returned to the workplace while also allowing remote working where appropriate.

Intellectual property

We continue to proactively manage our IP portfolio to maximise value and protect our core competencies. During the year, the Group’s IP portfolio was reduced to 559 patents and patent applications (2020: 731).

This net reduction reflected 74 new applications and 246 that were dropped, mainly in territories or potential applications where it was no longer felt worthwhile to pursue. We have also slowed the rate of filing new IP to preserve trade secrets and to conserve financial resources. Our IP and a significant range of business process secrets strongly underpin the Group’s valuation while also operating as a challenging barrier to entry to potential competitors.

Environment/restriction of hazardous substances (“RoHS”)

The European Commission (“EC”) was considering an appeal that the exemption allowing the use of cadmium based quantum dots in display films should continue. The EC was also considering an appeal for a five-year exemption to allow cadmium-based quantum dots to be applied directly onto LED chips for displays and lighting.

The EC has now received a recommendation that:

·      the exemption to allow cadmium (>100ppm) in QD films for display is no longer justified and should be phased out by 31 October 2021; and

·      a new exemption is granted to allow cadmium-based quantum dots applied directly onto LED chips for displays and high CRI lighting for a period of five years.

Before becoming law, this has to be adopted by the EC though this is not expected to take a significant length of time. It should also be noted that for film-based displays there is not an outright ban which could allow displays with cadmium content below the limit above to continue to be sold.

People

Our employees have shown great resilience during a very uncertain year. They have remained focused on our customers and supporting each other while coping with the Covid-19 pandemic, uncertainty during the consultation process and a companywide salary reduction. We were pleased to be able to reverse the salary reduction for all staff outside the leadership team in October 2020 with the latter having pay cuts rescinded at the end of March 2021.

We were pleased that the staff achieved 100% of their shared team goals for revenue and safety improvements and hence received their full bonus awards. While we feel it is not an appropriate time to make a general inflationary pay award, we have recognised staff feedback on their preferred form of rewards and have therefore increased the Company pension contribution from 5% to 6% with a medium-term goal of achieving a 7.5% Company contribution.

Retaining and incentivising our highly skilled team is key to delivering organic value from the business.

Outlook

Some much needed stability has returned to the business. All staff are now back at work and numbers are stable to match current activity levels. The heavy workload and distraction of the lawsuit is focused on a small number of the team and our advisers do much of the heavy lifting. Our third party funding for the lawsuit and patent review process allow us to focus Nanoco’s cash resources on capturing near-term commercial opportunities.

We continue to expand our range of materials offered in sensing markets that are experiencing high rates of growth. We are focusing our internal resources on a balance of commercial activities and investment in new IP to protect the developments being made by our R&D efforts.

Contingency plans remain in place in the event that the organic business fails to become self financing. These plans ensure that the potential value in the lawsuit can be protected. However, they would result in the Group becoming an IP shell with all future value potential linked only to our IP, the lawsuit, and a potential licensing only business model. With our stable cost base, near-term commercial opportunities and live development programmes with significant global players in various electronics markets, I remain confident that we can deliver value for all of our stakeholders in the short to medium term with potentially additional transformative value in the Samsung litigation.

Brian Tenner

Chief Executive Officer

3 November 2021

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