Investing Strategy: The Avacta Edit

Key things you need to know about investing in small cap oncology research stocks — including the best biotech on the AIM market.

As a freelance financial analyst, I spend most of my time evaluating EIS-qualifying companies for high net worth investors, alongside coverage of market titans for blue chip clients. Much of this material is locked behind stringent non-disclosure agreements — leaving me to grow a social media following based almost exclusively on small cap companies.

Why oncology?

Happily this seems to be going relatively well. In this arena, just as with EIS companies, I am looking for the highest risk, highest reward companies, with the potential to deliver 1,000% returns over a period of five+ years. This generally leaves two sectors: junior resource (mining), which I have covered recently, and life sciences (biotechs).

In particular, I am drawn to biotechs focusing on the oncology space. Oncology simply means ‘study of cancer,’ (those Greek and Latin A Levels coming in clutch), but in medicine as in law, where there’s the opportunity to amalgamize ancient languages, it will always be taken.

But why oncology? To start with, NHS data suggests that 50% of us will develop cancer at some point in our lifetime. Of course, this often happens when we already have one foot in the grave (so to speak), but the reality is that virtually every investor has come into contact with cancer on a personal basis — and feels they understand the basics, even though cancer is an umbrella term covering hundreds of different diseases.

Together with cardiovascular disease, they account for the vast majority of mortal illnesses in OECDs.

This means two things: cancer research is generally a very well-funded area compared to other equally deserving research sectors, and investors often feel an emotional attachment to shares conducting exploratory trials. This second point is really interesting, because many investors view their investing in oncology shares as similar or better than directly giving to cancer research charities.

One of the key things to understand — and this is an issue with all biotechs focusing on clinical trials — is that there are long periods between each individual phase of a trial. Phases 1, 2 and 3 can cumulatively take a decade in some cases, and so even when a potential asset is game-changing, there are often share price drifts between news, followed by rockets once news is released, and then profit-taking.

Rinse and repeat for a few years, but those looking to get their 10% through the market cycle can get burnt at any time — a buyout comes out of the blue and the share price rockets tenfold; a clinical trial result comes early with poor news and the opposite occurs.

Another important point — and I cannot stress this enough — I am not a scientist. I know a large number of researchers at the coal face, but can only speak from a financial viewpoint, while also covering the science at a level that the generic investor will understand. When Avacta CEO Alastair Smith publicly lamented ‘a paucity of expert analysts to guide risk-averse UK investment managers’ in The Times, he was making an excellent point.

High risk, high reward

Before we get too deep into this piece, there are a few caveats to consider:

• This is not financial advice. Do your own research and make your own decisions.

• This is comparatively high-risk, high-reward territory. You might lose some or all of your money.

• There are some important first steps to consider before investing in AIM biotech shares. Generically, these center around developing financial resilience and diversification.

It’s worth giving potential investors a flavour of my background. When I first started pushing my work on social media, it was in response to the emergence of AI. For context, I’ve been covering the stock market as a freelance analyst since April 2017 – and would have preferred to stay out of the ‘limelight.’

However, my view is that the kind of copywriting that I create for blue-chip clients will likely be replaced by ChatGPT, Bard, Ernie Bot etc. within the next few years. As I really enjoy my work, the answer is to get my name out there — such that investors attach my name to interesting pieces.

As I come close to 4,000 Twitter (X) followers, this has come with its own set of problems.

People who have known me for some time will know that I focus on generating the highest return possible in the shortest amount of time, using money set aside for risky investing. I enjoy the rollercoaster ride that comes with small cap investing because, psychologically, I am prepared to lose it.

My investments are not for low risk investors — but for balance, virtually every AIM share is high risk when compared to blue chip alternatives.  Every single AIM investor has at some point lost a significant amount of money in a single company. This could be because of a failed drilling campaign, weak clinical trial results, underreported financial issues – the list goes on and on.

Accordingly, despite any social media bravado, memes, jokes or otherwise, investors should go in with their eyes open: small cap oncology companies operating promising clinical trials projects can be attractive, but the standard success rate is a meager 10%.

Through copious research, it is possible to identify those companies with a better chance, but it’s always important to remember that for every scientific breakthrough, there are nine teams of highly skilled researchers being set up for bitter disappointment.

Further to this, if you want 1,000%+ returns, you need to sweat for it. For context, the S&P 500 has delivered average annual returns of circa 11% since 1957 – anything above this is considered higher risk by the markets.

Another note on the financial side — I often think that many small cap oncology companies would be perfectly happy if investors would just leave them alone to tinker with their potentially ground-breaking clinical trials.

But even a company with a pipeline of treatments needs strong finances, good PR, a relatively strong share price, and decent investor sentiment to get their candidates through to commercialisation.

Part of the process involves financial commentary — but again the lack of expert scientific analysis means notes from the likes of Stifel et al simply don’t include the expertise to put actual valuations on specific drug candidates, instead usually assigning the typical 10% success rate.

Often this stance is for regulatory reasons, but it’s also true that actually assigning chances of success to an oncology clinical trial candidate is extremely complex. What I’m trying to do with this piece is frame where Avacta fits into the wider oncology space, hopefully arming investors who might struggle to understand why its flagship AVA6000 is causing so much excitement.

Let’s dive in.

Clinical Trial Types

Clinical trials are research studies designed to evaluate new treatments, therapies, and interventions for various types of cancer. These trials aim to determine the safety and effectiveness of new approaches, and potentially improve patient outcomes.

The less savoury reason for clinical trials is financial; a successful new treatment can make a company billions in certain cases, save the healthcare system cash, and even improves global/state GDP, as cancer patients not only cost money in hospital but will also go back to work once successfully treated.

Broadly speaking, cancer-focused clinical trials can be broken down into the following five categories (at least, for investor purposes):

Prevention Trials

These types of trials focus on preventing or reducing the risk of an individual from developing cancer. These often include vaccines, oral medications, or even lifestyle changes in individuals who have a high chance of getting the disease.

This is a really diverse area, but past trials that became current successes include the HPV vaccine for prevention of cervical cancer, pre-emptive mastectomies for women with certain genetic markers, and WHO guidance for carcinogens — e.g., cigarettes and bacon.

Screening Trials

These trials usually aim to detect cancer at an early stage before it metastasises (spreads throughout the body), becoming much harder to treat. Trials either target novel screening developments, or more commonly hope to improve on current techniques.

For example, men are encouraged to get their prostates checked for cancer from middle-age onwards, while women are commonly asked to come in for smear tests at their local GP.

Diagnostic Trials

Diagnostic trials aim to develop new techniques or tools to detect cancer either earlier, or more accurately. Advances in this area improve health outcomes for patients and make treating cancer much cheaper too.

For example, diagnostics include blood testing, new imaging tech, or more recently molecular profiling.

Palliative Trials

Palliative care trials are often overlooked — by both investors and the general public at large — as they focus on an area of cancer care that few people wish to think about. However, the reality is that many people die from cancer, and treatments that help with pain management and psychological support are extremely important.

At present, most of the available, actually effective, painkillers for this stage are addictive and psychologically harmful.

Treatment Trials

Treatment trials get the lion’s share of cash and investor attention — even though preventive and diagnostic are arguably more beneficial. Of course, there’s a reason for this — a universal cure for cancer, if such a thing is even possible (more on this at the end) — would have a similar effect on the world as Jenner’s smallpox vaccine.

Most will know that these types of trials are usually split into three distinct phases to assess safety, efficacy, and optimal dosage — designated at Phases I, II & III.

Treatment trials that tend to garner the most investor attention include:

• Chemotherapy Trials — exploring new drugs, drug combinations, or platforms to either improve efficacy or reduce side effects.

• Targeted Therapy Trials — targeting certain abnormalities specific to cancer cells.

• Immunotherapy Trials — including CAR-T therapy, these trials aim to train the body’s own immune system to detect and destroy cancerous tumours. CAR-T modifies the patient’s own T-cells to express chimeric antigen receptors that recognize and target cancer cells. 

There are of course dozens of other treatments being developed, but these areas seem most promising given the confidence of institutional investment.

The Oncology Four

Just like I identified my lithium picks last week, I am keenly following four London-listed small cap oncology shares — each at very different stages and focusing on different areas of treatment.

• Avacta (LON: AVCT)
• Hemogenyx (LON: HEMO)
• Cizzle (LON: CIZ)
• Poolbeg Pharma (LON: POLB)

While the other companies are attractive investments on their own terms — with some also offering non-oncology based treatments — they are all blown out of the water by Avacta. There is simply no comparison from a risk-reward perspective. I am a supporter and investor in the other three, all of which are promising, but Avacta is simply in a different league. If you want to buy any of these four shares or other small-cap biotech shares we recommend either IG or eToro for their great access to instruments, nice user interface, and possibilities for social trading.

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At this point, it’s worth making a financial note.

As a long-term investor, I’m always trying to buy AIM biotech shares during periods of no news as traders keep away from the stock and the share price gets depressed.

Avacta’s share price trajectory is a classic example: in late July (a month after an excellent RNS), the share price had dropped below 100p per share — despite the company’s flagship asset being more developed and de-risked than when the stock hit 185p in early February.

One of the key mistakes that long-term investors make is buying shares when a biotech hits the headlines rather than taking advantage of the dips when nobody is talking about it. When a company is simply getting on with running the next stage of a clinical trial, there will be no RNS’s and therefore no PR, news flow, independent analysis etc — the share price will drift downwards, and value is to be found.

Of course, waiting does come with the risk you missing the boat, but my perspective is simple: a share bought at 97p ranks parri-passu (is fungible or equivalent) to another bought at 180p. If the fundamentals remain the same, paying more money for fewer shares rather than taking advantage of a ‘sale’ when sentiment is weak is madness.

One other really basic point is that when it comes to a company’s stock market value, you need to consider the share price x number of shares in issue to get the market capitalisation. A share price by itself is only half of the equation.

Start with the Caveat

Investors have been promised success before by hundreds of biotech start-ups. Companies I have covered over the past few years — including Synairgen, BridgeBio Pharma, Sensorion, Rafael, and Angion Biomedica — all saw sharp share price corrections after their flagship treatments for illnesses ranging from covid-19 to heart disease to kidney transplants, failed.

Rafael’s Devimistat is potentially the best warning for would-be oncology investors. In late October 2021, its Phase III flagship treatment failed to meet its primary endpoint of overall survival.

528 patients with metastatic pancreas adenocarcinoma were randomised to receive either Devimistat in combination with modified Folfirinox, or just Folfirinox, a current standard of care chemotherapy. The median overall survival in the Devimistat and mFFX patients was 11.1 months, compared to 11.7 months in the FOLFIRINOX patients.

After announcing the failure, Rafael’s share price immediately crashed by 75%.

Of course, these companies all invest heavily in research and development because one success can result in billion-dollar outcomes. But successes are rare.

And as an investor, when you know only 10% of candidates succeed, it can be easy to rationalise your investment by saying:

‘This clinical trial is different.’

Yes, sometimes it is. But usually, it’s not. Over the past decade or so, TIVO-1, LUX-Lung 1, EMBRACA, ADVANCE, BRIGHT, FOCUS, SELECT, SATURN, PEARL, IMpassion130, CHECKMATE-451, GOG-0218, COMBI-AD, MYSTIC, LUME-Lung 1, KEYNOTE-062, and METLung all failed. Every single one was a Phase III oncology trial candidate, having succeeded in the initial two Phases.

Then there’s the macro picture to consider.  To start with, most analysts consider that the failure rate for oncology candidates is even higher than 90%, even though oncology has accounted for roughly a third of all clinical trials since 2000.

Moreover, the UK used to be a global biotech market leader in the early 2000s, but more than a third of the country’s biotechs collapsed after the 2008 financial crisis. Many now choose to move from AIM to the US after initial success— but this is a mistake as often as not, with Deloitte research showing the valuation gap may not exist at all.

On the plus side, day-to-day share price movements are almost irrelevant to a biotech stock’s real value. This is because companies like Avacta have one flagship asset that will either work or not. The binary nature of these investments is clearly high risk, high reward, but makes it easier to hold through volatility, and also much easier to spot moments of value when the share price falls.

Factoring into this, when Trinity Delta, Stifel, or any other research house puts a valuation on a biotech, it’s almost always based on a ‘hedge,’ whereby they work out the size of the market the treatment would disrupt and then calculate the value based on the standard 10% CoS.

This is, of course, nonsense — because in the case of AVA6000, globally renowned oncologist Dr William Tap — involved on the US side — has declared that ‘if we can come up with a better (treatment), then overnight it could become the standard of care.’

This means that Avacta can either capture an entire segment of the chemotherapy market, or none of it. The problem is that FCA-registered research houses need to include a valuation using specific metrics, and more importantly, can’t really have a price target ranging from 0p to £5.

Small cap biotechs are either gold mines or their lead assets are worthless. There’s no middle ground.

If you look through most research notes, many biotechs come with the standard disclaimer that ‘the success probabilities are based on standard industry criteria for the respective stage of clinical development.’

But if you look at AVA6000, it’s really a novel delivery of an already proven drug, so the standard 10% CoS is simply not relevant — and as institutional investment tends to work based on research notes, this can depress share prices.

Avacta (LON: AVCT)

Where two types of treatment trials are cocktailed together, that’s where serious value can be found. I can’t cover the entire Avacta investment case here, so will concentrate on flagship asset AVA6000 — which works at a cross-section of chemotherapy and targeted treatment.

AVA6000 summary

• AVA6000 is a prodrug of Doxorubicin that is activated by FAPα, a protein found at high levels in tumour tissues but not in healthy tissues. This selective activation minimises typical systemic toxicities, specifically reducing the risk of cardiotoxicity and myelosuppression associated with traditional Doxorubicin.

• Metastatic soft tissue sarcoma has been chosen as the Phase II indication for AVA6000. This decision is based on two criteria, (i) the atypically high FAPα expression observed in advanced STS tumours, and (ii) the fact that Doxorubicin is currently the primary therapy for this type of cancer.

• For context, the efficacy of standard Doxorubicin in STS is limited, with a progression-free survival of only four to six months, overall survival of 12 to 15 months, and a typical objective response rate of only 10-15%.

• Clinical studies targeting specific individual subtypes have led to the development and approval of ten new STS therapies over the past ten years, but none could hope to cover all 100 of the diseases covered by the umbrella term. AVA6000 is potentially agnostic and could treat all of them.

• If AVA6000 succeeds in establishing clinical proof of concept, it also proves that the patented pre|CISION technology works to reduce typical chemotherapy toxicities, and also means that Avacta could potentially develop similar therapies for every other tumour type.

In my view, the company’s success hinges on whether AVA6000 is successful as this would prove the efficacy of the entire pre|CISION pipeline. But estimating the chance of success is easier said than done — as I mentioned above, estimates range from the typical 10% to near certainty.

But having gone through the standard warnings, it’s worth noting that clinical success would be one of the most revolutionary advances in the history of medicine.

It wouldn’t quite be on the same level as Edward Jenner’s smallpox vaccine, but being able to deliver larger doses of chemotherapy drugs, and more rounds, with no side effects, would be one of those gamechanger moments that researchers and investors alike spend decades chasing.

There are essentially three problems with valuing Avacta from a financial standpoint:

• AVA6000 is a modified form of a long-proven therapy, so it’s clearly more likely to be more successful than starting from scratch.

• The company hasn’t even finished phase 1A clinical trials, so it’s very early stage and detailed results are not available until Q4 2023.

• Results so far are beyond outstanding.

It’s probably worth highlighting a key quote from earlier this year.

In an April interview, CEO Alastair Smith noted that:

‘quite a few people assume — you’re releasing Doxorubicin in the tumour, therefore it MUST be efficacious, because it’s Doxorubicin. And the fact that it’s an approved drug should give us a high degree of confidence in seeing efficacy, but that’s not good enough from a regulatory perspective. You can’t assume that; you have to demonstrate in a human trial the efficacy.’

However, at the time he also emphasised that ‘it’s very early to be making firm statements about the use of AVA6000 in standard medical settings. Despite further success since then, I think it’s worth remembering this caveat.

For context, clinical trials take place across three stages: Phase I, Phase II, and Phase III. Occasionally, post-approval Phase IV studies also occur, but this is very unlikely to be necessary for AVA6000.

Phase I studies — the first in humans — focus on safety, ADME (absorption, distribution, metabolism, and excretion), side-effects, and tolerability. Phase 1A typically involves single ascending dose studies, while Phase 1B uses multiple ascending doses.

Phase 1b data helps to guide the recommended dose for Phase II, which is usually lower than the maximum tolerated dose due to long-term toxicities and tolerability considerations. Essentially, both phases 1A and 1B are about determining the maximum safe dose, rather than whether the treatment is effective.

Phase II studies consider efficacy and are used to determine proof of concept. As Doxorubicin is already proven effective, it’s the pre|CISION platform part of the AVA6000 trial that is being tested.

If found to be successful in Phase II, there are multiple possible next steps:

• a limited Phase III trial, which may not be necessary, especially if Phase II is larger than normal. This seems possible given the multi-site set-up, which may have been done purposefully to avoid this stage.

• expedited regulatory approval possibilities — in the US, these include Priority Review, Fast Track designation, Accelerated Approval, and Breakthrough Therapy designation. AVA6000 could easily benefit from any of these four schemes.

Understanding risk

The idea that AVA6000 has a simple chance of success of 10% — given the presence of Doxorubicin in Phase 1A patient tumours and urine, alongside the long history of Doxorubicin as the current standard of care to treat soft tissue sarcoma — is clearly not an accurate assessment.

Likewise, there is a reason that there is a regulatory requirement to get through the various phases.

Recent updates

I won’t go into personnel changes (other than to point out that the company is likely getting its ducks in a row). The important thing is where AVA6000 is now, and the most recent update comes from 19 September. Smith enthused:

‘I believe that we are on the verge of a paradigm shift in how chemotherapy is delivered to cancer patients.

The safety and initial efficacy signals emerging from the data in the AVA6000 Phase 1 study are very encouraging indeed. The pre|CISION platform is doing exactly what it was designed to do – target the release of active chemotherapy to the tumour tissue, sparing healthy tissues and improving the safety and tolerability of the drug whilst delivering potentially superior efficacy.

I’m particularly pleased that, even at this early stage and in this patient group, we have a confirmed, significant response in a patient with soft tissue sarcoma, as well as other positive signals across a number of other patients.’

In the sixth dose escalation, the company announced:

• excellent safety profile for AVA6000.

• significant tumour volume reduction in a patient with soft tissue sarcoma, and further indications of clinical activity in patients across other indications.

• 35 patients with a range of advanced and/or metastatic solid tumours have now been dosed, and AVA6000 continues to be well tolerated by patients in cohort 6 despite receiving 2.79x the typical dose of doxorubicin.

• clinically significant reduction in toxicities associated with standard doxorubicin chemotherapy continues to be observed. These data continue to demonstrate the potential to administer higher doses, more cycles of AVA6000, or more frequent dosing.

• the Safety Data Monitoring Committee has recommended continuation to the seventh dose cohort at 385 mg/m2, equivalent to 3.5x the standard dose of doxorubicin.

• cohort 7 will be the final dose escalation cohort in the ALS-6000-101 Phase 1a safety study for three weekly doses.

• clear signs of efficacy have now been confirmed. One patient with soft tissue sarcoma has shown a significant reduction in tumour volume, with further signs of activity observed in patients with cancers not limited to soft tissue sarcoma.

• in parallel with the completion of cohort 7, Avacta is planning a short study to explore more frequent dosing (fortnightly) of AVA6000 as a first line treatment in patients with soft tissue sarcoma. The study is expected to begin in Q4 2023.

• this replaces the much longer planned Phase 1B efficacy study, such that the Phase 2 efficacy study could start in 2024.

• the Company expects to publish detailed data from the Phase 1A clinical study, including clinical and pharmacokinetic data, in Q4 2023. 

The key point is that a Phase 1A trial demonstrating clinically significant results within the soft tissue sarcoma patients is not even the point of the study. Phase 1A is simply to demonstrate that the drug is initially safe to experiment with — so the fact that Avacta is seeing efficacy is astounding. Further to this, it’s also seeing efficacy in patients suffering from other types of cancers that AVA6000 is not even designed to target.

This isn’t something you see in oncology trials.

If accelerated trials can be started as planned and Phase 2 starts in 2024, Avacta’s value horizon speeds up considerably. However, the moment the hard data from Phase 1A hits in Q4 2023, the clock will start on a buyout — though the question for Smith (who has worked on this for decades) is whether he prefers to hold for gold.

Of course, there is one really important factor that investors need to consider (and scientists hate to think about) — financing.

On 19 June, the company was forced to remind investors that ‘no fundraising is imminent…Avacta has a strong cash balance of £27 million on its balance sheet as of 31 May’ in response to rumours of a placing.

But this was in May and getting AVA6000 out of the hands of researchers and into the hands of doctors ‘at the coal face’ will take a chunk of cash. Clearly, Smith is aware of this (and also aware that many investors are waiting for a placing to buy the dip). In a very recent interview with Vox Markets, the CEO advised that Avacta is:

‘prioritising non-dilutive sources of capital, either through partnership or licensing…we’re in no rush to raise capital at the moment. There’s a lot of optionality.’

From a financial viewpoint, the company is perhaps de-risked to an extent, as Avacta can now plausibly see revenues coming in perhaps as soon as Q3 2025 (two years away). Given that NASDAQ-listed companies with similar assets sport multi-billion-dollar valuations, the company is also excellent value for fundamental investors — and I have previously speculated that it will move its listing stateside soon.

Financially, there is another concern — there is still £43.35 million of a convertible bond to be converted to shares. This will happen at some point, and would-be investors should be aware that there is an anchor of sorts on the share price. Again, this kind of cash is peanuts in the pharma space, but equally, ignoring bonds is never a good idea.

But when Smith talks about optionality, it’s because he’s bargaining for non-dilutive financing from a position of strength. The biotech titans will all want a piece of the potential pipeline — remember, AVA6000 is just the start. There’s an entire cohort of treatments coming through, starting with the lieutenant, AVA3996 — and it’s likely that Smith has suitors at the door akin to Penelope of Ithaca.

For context, I do still think that Avacta would benefit from selling diagnostics assets to concentrate solely on its therapeutics development pipeline. From a marketing point of view, it’s hard to promote the company as a trailblazing clinical research business, while it also deals in plodding diagnostics.

But if you consider that AVA6000 trials are being sped up, with Phase II to commence perhaps by the end of Q2 2024, and that Phase III trials may very well not be necessary, then the total cost of getting to approval will likely not exceed £30 million, based on industry standards.

In reality, it’s probably going to be cheaper than this — but the key point is that this kind of cash in the pharma world is chicken feed.

For context, the Doxorubicin market alone was worth circa $1.4 billion in 2022. And AVA6000 massively expands the market, as it makes the drug viable for patients who cannot endure Dox side effects, or for whom the standard dose would not make enough difference to the tumour to be worthwhile.

Given that AVA6000 would be a patented (read branded) treatment, it would also command a much higher price than generic Dox, until the patent runs out.

But that’s not all. AVA6000 success would prove the potential of AVA3996 and over a dozen more chemotherapies — because if it works, in theory, it means that the pre|CISION platform works too — opening up billions more in potential revenue. I think that trying to assign a value is relatively meaningless, but clearly, it would be many multiples of the current share price.

Finally, there’s one more scenario to consider. I hesitate to use the word ‘cure’ when it comes to cancer, but if successful (and with the caveat that this would likely be years away), this could come very close.

At the bleeding edge of scientific discovery, there are two compounds — Monomethyl auristatin E and Monomethyl auristatin F — which are used as cytotoxic (cell-killing) agents in antibody-drug conjugates, which are essentially another type of cancer drug.

These compounds have been proven to be 100-1000x (yes you read that correctly) more effective than Doxorubicin but cannot be used in clinical practice because it would kill the patient, several times over.

What is needed is a delivery platform that can bring compounds like Monomethyl auristatin E to the tumour, without affecting healthy cells. pre|CISION could be that system; however, I’d caution that this is beyond speculative at this stage.

But while it’s still fair to characterise Avacta as a higher risk investment compared to, say AstraZeneca, progress since June has been startling. The 23 June RNS (which seems to have been forgotten) noted that ‘several patients in cohort 5 and earlier cohorts remain on treatment as their disease has not progressed.’

I named Avacta as the best biotech share for long-term investors to buy in 2023 — it will remain so in 2024.

This article has been prepared for information purposes only by Charles Archer. It does not constitute advice, and no party accepts any liability for either accuracy or for investing decisions made using the information provided.

Further, it is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.

Read more: What lessons can be learned from Avacta’s placing?

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