Kromek (KMK:8p), a Sedgefield-based radiation detection technology company focused on the medical, security screening and nuclear markets, has announced annual results today. The Covid-19 impact on the business led to Kromek reporting an underlying cash loss of £400,000 on 9 per cent lower revenue of £13.1m. This had already been flagged at the time of the pre-close trading update from the £27.5m market capitalisation company (‘Stock picking value open to future gains’, 4 May 2020).
Of far more interest is Kromek’s subsequent $5.2m (£4m) contract extension by the Defence Advanced Research Projects Agency (DARPA), an agency of the US Department of Defence, for work on developing a mobile bio-security system capable of detecting airborne pathogens. That’s because the project is now expected to be expanded for use in the non-military sector in response to the outbreak of Covid-19.
Kromek has already developed a prototype to sample air and identify the presence of any biological pathogen – including Covid-19 or any mutant version that may emerge over time. The technology can be used to immediately flag the presence of someone with a contagious disease and allow effective mitigation of the risk of transmission. By placing samplers in high footfall areas, such as airports and hospitals, or where people are in close proximity for long periods, threats can be identified without having to individually test people. Knowing a carrier is infected with a disease before they infect further individuals is key to halting the onset of an outbreak and before it causes major global disruption. Non-military applications include use in shopping centres, sports arenas, theme parks, schools, hospitals, offices, airplanes, and cruise ships. Importantly, it’s incredibly accurate, giving a false alarm in just one in 800,000 tests.
Chief executive Arnab Basu revealed during this morning’s results call that Kromek will undertake field trials with the pre-production prototype collecting airborne samples from urban and rural locations starting in January, and has field tests scheduled in London with two UK government agencies: The Defence Science and Technology Laboratory (DSTL), an executive agency of the Ministry of Defence; and Defence Aviation Repair Agency (DARA). Kromek also plans for delivery of units for pilot deployment in the US in the first half of 2021.
It could be a saviour for the UK government given the problems it’s facing with its much maligned Covid-19 test and trace programme. It could also reverse the fortunes for shareholders who have seen the share price decline since hitting a 12-month high of 27p in May, losing two-thirds of its value and taking the price well below the 17.5p level of my repeat buy call in early May.
Share price decline
The major reason for today’s share price fall is that Kromek unexpectedly revealed a £13.1m write-down on a medical imaging contract due to Covid-19 which has disrupted both the shipment to hospitals and access onsite.
Work in progress had been stockpiled for delivery and recognised as revenue over the course of the past 30 months. With shipment originally scheduled for 2020 onwards now delayed, the carrying value of accounts receivable under contract (AROC) is dependent on Kromek being able to prove a shipping date. It is unable to provide this at present, hence the £13.1m write-down to AROC in the accounts. However, all the stock remains on Kromek's balance sheet (and in its UK facilities) ready for shipment and delivery in the future, hence why the directors still expect the position to reverse, at which point Kromek can book a hefty exceptional credit. I am not sure investors have fully grasped this accounting point.
Kromek’s rebound potential
I am not sure they have grasped that a rebound in the 2020/21 financial year is on the cards either.
Firstly, Kromek has now started delivering on a delayed seven-year Original Equipment Manufacturer (OEM) contract worth US$58m (£45m) to provide its cutting edge CZT detectors and advanced electronics in state-of-the-art medical imaging detectors. The contract should deliver revenues worth “millions of dollars” in the current financial year, says Mr Basu. The same is true of another delayed contract from the 2019/20 financial year.
Secondly, the company continues to win new contracts in other parts of the business. Kromek was awarded $1.1m worth of contracts to add technical innovation capability to its D3S ‘dirty bomb detectors’ by US government agencies. They are proving popular in Europe, too, with the European Commission and Irish Civil Defence also using them. Given the heightened terrorism risk across the world, the 22 countries currently deploying the technology is likely to grow.
Thirdly, Mr Basu reassuringly notes that Kromek’s revenue is now back to pre-Covid-19 levels following the disruption of the first quarter to 31 July 2020. That’s important as it means that concerns over the company’s cash position should now ease, another reason for the share price fall since May. Finance director Derek Bulmer says that the company had gross cash of £9.4m at 30 April 2020 and gross debt of £5.6m. Since then it has strengthened its gross cash reserves by over £2m and varied bank covenants on its HSBC facility. Given that revenue has returned to pre-Covid-19 levels, and stocks are now being delivered on delayed contracts, the company should have the funding in place to operate without the need to tap shareholders. This may not have been made clear to investors.
The bottom line is that the 40 per cent share price discount to net asset value of 13p should reverse when investors cotton onto the huge commercial opportunities for Kromek's ground breaking DARPA airborne pathogens technology that is being piloted. Buy.
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