“We also never factor in, nor do we often find, synergies.”
Warren Buffet, 2018 Annual Letter to Shareholders.
Note on Mergers and Acquisitions
MYnd Analytics (MYND: Nasdaq), a provider of telepsychiatry services and clinical decision support tool for mental health practitioners, is merging with Emmaus Life Sciences, a privately-held developer of treatments for sickle cell disease and other rare diseases. That may seem like an odd paring. Indeed, the two operations will spend no time together at all. As Emmaus walks into the corporate house through one door, MYnd’s mental health services and technology will be taking flight through a window.
It is an unusual deal that takes some study to appreciate, but the homework could be worthwhile for investors.
MYnd Analytics - right time, right place with mental health care
Mental health has received new attention in recent years, possibly as a consequence of an increase in horrific mass shootings linked to mental health issues or perhaps as a phenomenon of social media. Unfortunately, as the stigma of mental illness has fallen away and more people have sought out treatment, patients are confronted with the disappointment of inadequate mental health care services.
There are not enough professionals in the right locations to meet demand. The Journal of American Medical Association reported in 2015, that one in five people has some sort of mental health condition. Yet new psychiatry residents grew by only 5.3% in the years 2010 to 2015.
Telepsychiatry is one solution that is proving effective in getting mental health care to people who need it. Patients are served at a distance usually through video conferencing or some other kind of live interactive communication system. Just like in a face to face encounter mental health care providers can conduct psychiatric evaluations, provide individual and group therapy, give patient education, and manage medication.
MYnd provides telepsychiatry services through a network of licensed mental health practitioners that are dedicated to distance mental health care. The company maintains a secure portal for these professionals and their patients that are served through contracts with interested parties such as insurers, local clinics, corrections facilities and employers. MYnd currently has thirty-two contracts in place across the continental U.S.
MYnd is set apart competitively by its clinical decision support tool that can assist mental health care professionals in selecting medications. MYnd’s PEER Report relies on an individual patient’s electroencephalogram (EEG) that records brain wave patterns. Data from this non-invasive exam is analyzed against the company’s proprietary database of over 11,000 known patient outcomes that help predict the efficacy of non-psychotic psychotropic medications for a patient based on his/her particular brain wave pattern.
Historically, prescribing psychiatrists have relied on trial and error to find the most effective medication for their patients. While the prescribing physician still makes the final selection in medications, the PEER Report helps remove much of the guess work in treating patients who may need drug therapy. The PEER Report is used within MYnd’s telepsychiatry network and has begun to gain traction in the broader market as insurers and other interested parties seek ways to reduce the time and cost to achieve successful medication outcomes.
Importantly, MYnd has accumulated a portfolio of twenty patents covering the company’s clinical decision support tool, including seven in the U.S. The patents protect the company’s proprietary quantitative electrophysiology and the process of using the company’s database of EEGs.
Emmaus Life Sciences - first to market with treatment for sickle cell disease
The other side of this captivating deal is Emmaus Life Sciences and its team of scientists dedicated to finding therapies for rare and orphan diseases. The company’s first product is an L-glutamine oral powder marketed as Endari to treat the complications of sickle cell disease in adults and children. Emmaus realized its first sales of Endari in January 2018, and has been building a distribution network of pharmacies and medical distributors in the U.S.
Sickle cell disease is a hereditary red blood cell disorder that can only be cured by risky bone marrow or stem cell transplants. The disease affects millions worldwide most of whom are of African descent. Data from the World Health Organization suggests that in sub-Saharan Africa up to 2% of all children are born with this debilitating and often painful condition. According to the Centers for Disease Control and Prevention, there are as many as 100,000 Americans with the disease.
Emmaus’ Endari has been well received in the market because there are very few effective treatments for sickle cell. When a child is diagnosed, they are prescribed antibiotic penicillin and vitamins. Eventually, a patient might be given pain-relieving medication, antidepressants or antimetabolites that are aimed at reducing and preventing complications. According to Grand View Research, the chronic condition of sickle cell leads to a large and steadily growing market value that is expected to reach $5.5 billion by 2023.
In late 2018, Grand View’s industry analysts counted at least thirty-seven different drugs aimed at sickle cell disease in various stages of development. Despite what appears to be a crowded space, Emmaus is expected to dominate the market for some years to come. Its competitive position is supported by its Endari L-glutamine therapy that is already approved in the U.S. Federal Drug Administration (FDA) and is expected to receive approval by the European Medicines Agency (EMA) before the end of 2019.
What will shareholders get in the deal?
The deal will give MYnd shareholders a taste of the Emmaus opportunity without paying a penny in cash. Here is how it will work.
Emmaus shareholders will receive shares of common stock in MYnd Analytics. The number of shares MYnd will issue to Emmaus shareholders is not yet determined because Emmaus is still adjusting its capitalization picture. There is the potential for some Emmaus debt to be converted to common stock before the merger takes place. Nonetheless, when all adjustments are completed by each company, the accountants will plug an exchange ratio into their calculators such that Emmaus shareholders as a group will hold 94.1% and MYnd shareholders will own 5.9% of the merged company.
As the Emmaus folks come on board through the merger, MYnd Analytics will be renamed Emmaus Life Sciences. It will remain a public company and will begin to trade under a new symbol EMMA. At the same time the MYnd operations with all of its telepsychiatry services and PEER clinical decision support technology will be bundled up along with a kitty of cash for a ‘spin out’ to a newly registered public company with a new name - Telemynd.
MYnd shareholders will receive one share of the new ‘spin out’ company for each share currently held in the old. As of February 2019, MYnd had 8.4 million common stock shares outstanding. The share count includes new shares recently issued to Aspire Capital pursuant to an equity purchase agreement that allowed MYnd to raise $1.1 million in new capital to support its operations.
Thus MYnd shareholders will end up with shares in two public companies - 5.9% of the old company that will house Emmaus Life Sciences and 100% of a new company that will be home to the MYnd telepsychiatry services and the PEER clinical decision support tool. All of MYnd’s management team will move to the spin out, but MYnd’s chairperson will keep a seat on the new Emmaus board of directors in order to watch over shareholder interests.
Emmaus shareholders will also have cause to celebrate. Holders of Emmaus common stock will get new liquidity by turning in ‘hard to sell’ shares in a private company for exchange listed shares in a seasoned public company.
Lots of shares, but what of value?
At the end of the day a company is worth no more or less than the current value of the cash flows expected in the years ahead. Unfortunately, pinpointing value for this deal is tricky since neither MYnd nor Emmaus have achieved profitability. That said, both companies have carved out highly defensible competitive positions with unique, protected technologies. Such positions of power could translate into strong sales and earnings in the years ahead.
In the fiscal year ending September 2018, MYnd generated $1.1 million in revenue through its telepsychiatry services and $263,700 from its PEER neurometric services. The company realizes a gross profit on both segments, but operating expenses exceed those profits. The reported operating loss in 2018, totaled $10.2 million. Given that there are significant non-cash expenses such as stock-based compensation, investors are wise to also consider cash earnings. Cash usage by operations totaled $9.0 million in fiscal year 2018. Results in the fiscal first quarter of the current fiscal year, suggest the company is still building revenue but struggling to find profits under a hefty operating budget.
In first nine months of 2018, Emmaus generated $8.2 million in total revenue, most of which resulted from sales of the Endari therapy for sickle cell disease. The company turned a tidy 94% gross profit on these sales. Unfortunately, these profits were eaten up by a heavy budget for marketing and selling Endari in its first year on the market. Emmaus’ operating loss in the nine-month period was $9.3 million.
Accounting for Emmaus’ debt and equity financings injects quite a bit of noise into the company’s reported net income. Thus, to gauge financial performance investors are better informed by operating cash flows. Emmaus used $4.7 million in cash to support operations in the first nine months of 2018.
Emmaus had $16.7 million in cash on its balance sheet at the end of September 2018. While that nest egg will support operations for at least a year or two at the recent spending rate, the company indicated in the public filing for the merger that it will be necessary to raise additional capital to fully execute the company’s strategic plans. Those plans include funding development of a therapy for corneal diseases using ‘cultured autologous oral mucosal epithelial cell sheets,’ which could be Emmaus’ second major therapeutic candidate. Thus Emmaus shareholders and their new confederates at MYnd can expect some equity dilution or interest costs through future capital raising efforts even as revenue and earnings rise from sales of Endari sickle cell therapy.
The merger partners have their work cut out for them. Emmaus is still negotiating with some of its lenders over conversion of debt to common stock. The MYnd team is working with accountants and tax attorneys on the thorny issue of net operating losses carried forward on its balance sheet as tax related assets. At the end of September 2018, MYnd had $60.2 million and $33.8 million in state net operating loss carryforwards that could be of value to either company if those NOLs can be salvaged in the change of ownership.
The spin out of MYnd operations concurrent with the merger may be considered a taxable dividend distribution for MYnd shareholders. The value of the dividend - determined by fair market value of the MYnd spinout - has not been finalized. U.S. holders of MYND shares will need to watch for updates on the fair value topic to figure out whether they will have a tax bill. The ongoing analysis of the net operating loss carryforwards may help offset shareholder capital gains taxes as well as MYnd’s corporate tax liability.
MYnd is also asking shareholders to approve a reverse split of its shares to make certain shares in the new company meet Nasdaq listing requirements. The precise ratio would be determined by the board of directors. Emmaus and MYnd shareholders alike could get a surprise by the mathematics of a reverse split that instantly increases stock price and reduces shares outstanding.
A Deal That Cannot Be Refused
The Emmaus management team had been searching for way to gain access to the public markets where liquidity leads to cheaper capital. After months of networking, the company approached MYnd leadership with a merger proposal. MYnd would have vacate its ‘public corporate house’ to make room for Emmaus, but a share of Emmaus bright future with Endari could be a lucrative reward for the disruption.
The final decision will be made by MYnd and Emmaus shareholders. When leadership of the two companies sets a date, a majority of each company’s shareholders must vote in favor of the transaction. Members of senior management and the board of directors who own shares have all pledged to votes their shares in favor of the deal. Since both companies have significant insider ownership - 16.4% of MYnd common stock is currently in the hands of management and directors and about 29.5% for Emmaus - offer that cannot be refused may be well on the way to acceptance.
Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein. Companies mentioned in the Prime Series, where this article was originally published, may have relationships with sponsors of the Small Cap Strategies web log.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.