Jim Corbett needs to work on his poker face.

In the last 12 months or so, he repeatedly brushed aside the notion AVITA Medical would need to raise capital. That looked pretty unlikely considering the business started 2023 with $79 million in cash and was about to embark on an expensive ramp of its portfolio. Indeed, after reporting an operating cash burn of $19 million in all of 2022, the company burned through $18.2 million in just the first six months of 2023.

Will the investments in growth be worth it? That seems likely, especially considering the well-established commercial footprint for soft tissue repair and a generous 85% gross margin for the portfolio. But it was always going to be a good idea, or even necessary, to maintain a relatively healthy cash balance during the commercial ramp.

AVITA Medical addressed that by shoring up its balance sheet through a credit agreement with OrbiMed, a global investor in life sciences. The arrangement will provide up to $90 million in capital, including $40 million added to the balance sheet at closing.

Above all else, investors should remember that cash is king. Raising capital, even through debt, enables the growth trajectory and makes this a positive development. It just helps to understand the details.

The OrbiMed Credit Agreement, Explained

As noted in our prior analysis of the company's cash runway (bold in original):

Importantly, Solt DB Invest modeling disagrees with CEO Jim Corbett's assertion that the business will end 2024 with more than $30 million in cash. AVITA Medical may have additional levers to pull to maintain gross margin in 2024 that I'm not accounting for, although increases in sales and marketing expenses and R&D expenses (for clinical trials) appear to dwarf any gross margin surprises.

Regardless, the business will likely seek to raise capital before the end of 2024 and ahead of the stable vitiligo launch in January 2025. A capital raise could include a stock offering, a debt offering, or grabbing a sizable upfront cash payment from a partner in stable vitiligo.

Our expectation for a public offering increased in April 2023 when AVITA Medical renewed a $200 million shelf registration. The company was unlikely to issue the full amount, but an offering of least $50 million seemed likely, especially as shares rose to $20 this summer.

But management never pulled the trigger.

It seems management became too fixated on avoiding dilution. It's a noble goal, although issuing 5 million shares at $15 per share could've raised $75 million in gross proceeds. That would've diluted shareholders 25%, not great, although the share price might have been more protected by a higher cash balance. Hindsight is 20/20. And for all we know, the company could've attempted a stock offering this summer and struggled to find enough investors.

AVITA Medical did the next best thing by forging a credit agreement with OrbiMed. The five-year credit facility is secured by the company's assets (a standard arrangement in this context) and will accrue interest of at least 12% per year. It provides:

• $40 million at closing (October or November 2023)
• An option to draw a term-loan of $25 million before December 31, 2024, if certain revenue thresholds are met
• An option to draw a term-loan of $25 million before June 30, 2025, if certain revenue thresholds are met

The initial $40 million in funding will cost at least $25 million in interest payments over the five-year term. On the one hand, the math of interest payments can be painful to swallow. Is the avoidance of dilution really worth the cost of debt servicing?

On the other hand, October 2028 is a long way away. The business could be generating $200 million in annual revenue and boast a valuation of over $1 billion by then. A public offering of common stock with 5 million shares at a price of $35 per share (roughly what a $1 billion valuation would be worth) would raise $175 million in gross proceeds. That would be enough to pay off all debt, including the optional two term loans, and any accrued interest – with cash leftover.

Forecast & Modeling Insights

(No change.)

The long-term scenario doesn't seem so bad, but there's a significant amount of execution required between now and October 2028 to make it a reality. Solt DB Invest cannot accurately forecast that far into the future yet, although some quick back of the envelope math show it's possible.

• Our current 2024 model expects full-year 2024 revenue of $77.6 million.
• If AVITA Medical achieves that and grows revenue roughly 27% per year (not the CAGR) from 2025 to 2028, then it would generate full-year 2028 revenue of $202 million.
• In that scenario, the stable vitiligo indication would generate full-year 2028 revenue of less than $100 million after launching in 2025. Considering the serviceable addressable market (SAM) opportunity specifically for ReCell Go in stable vitiligo is estimated at $752 million per year, this isn't a wildly speculative future.
• The company has publicly stated it thinks 30% annual revenue growth is inadequate during the next few years.

For now, Solt DB Invest has decided to keep its current model unchanged. Avoiding near-term dilution is nice, but the company will need to issue shares eventually. It simply makes more sense to remain conservative against the current backdrop of the biotech winter.

Margin of Safety & Allocation

(No change.)

AVITA Medical is considered a Growth (Quality) position. The current modeled fair valuation for the company based on our 2024 model is below:

• Market close October 20: $10.19 per share
• Modeled Fair Valuation: $16.95 per share
• Allocation Range: Up to 15%

AVITA Medical reported 25.478 million shares outstanding as of August 2, 2023. The Margin of Safety range above assumes 29.300 million shares outstanding, which prices in 15% dilution.

Further Reading

• October 2023 press release announcing credit agreement with OrbiMed
• October 2023 regulatory filing describing credit agreement with OrbiMed