Shares in medical testing specialist Novacyt (LSE: NCTY) fell by 40% on Friday. Its share price crashed after the company said it had failed to agree a contract extension to supply Covid-19 tests for the NHS in 2021.
To make matters worse, the company’s now also in dispute with the NHS over sales during the final quarter of 2020.
Novacyt’s share price opened at around 430p on Monday morning. That values the business at just two times 2020 forecast earnings. That’s an unusually low valuation for a profitable business.
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This former high flyer is now worth 15% less than it was a year ago. Should I buy Novacyt for my portfolio today — or is this business a one-hit wonder that’s past its peak?
What we know
Sales to the NHS generated 50% of revenue during the first quarter of this year. But Novacyt has failed to secure a contract extension with this important customer. Management now says sales and profits are likely to be lower than expected this year.
And with Novacyt in a legal dispute with the NHS relating to those final quarter 2020 sales, I don’t know what the financial impact of this might be. But it’s probably not good news.
There’s a stock market saying that profit warnings often come in threes. Although that’s not always true, in my experience a company’s first profit warning is often followed by further bad news. If this happens, I think Novacyt’s share price could have further to fall.
What happens next?
It was always obvious that demand for Covid-19 testing would start to fall at some point. But the firm’s comments on Friday suggest to me that demand may already be slowing.
The main testing product Novacyt sells to the NHS is called PROmate. According to management, PROmate sales during the first quarter “may be sufficient” to satisfy NHS demand “for the remainder of 2021.”
The company hopes to continue selling PROmate to private sector clients and international markets. But if NHS demand is falling, then I’d guess demand elsewhere might fall too.
The company’s aim is to use its success during the pandemic to build a wider portfolio of testing and diagnostic products. So far, we haven’t heard much about this. But Novacyt ended last year with a cash balance of €101m, so it should have the funding it needs to develop new products and make acquisitions.
Novacyt share price: my decision
It’s worth remembering that until last year, Novacyt’s annual sales had peaked at €14m and the firm had never made a profit. Covid-19 testing proved to be a bonanza for the group, which secured valuable NHS contracts and generated sales of €312m in 2020.
Before last Friday, 2020 profits were expected to be €185m. With a market-cap of £345m and net cash of €101m, Novacyt shares look cheap to me on a historical view.
However, investment is about the future. And that looks pretty uncertain to me. In my view, buying the shares today means betting that CEO Graham Mullis can secure new business to replace Covid-19 testing.
I don’t know how likely this is. But my gut feeling is that it’ll be difficult to do quickly. I won’t be buying Novacyt shares just yet.
