Novacyt share price: should I buy the dip?

The Novacyt share price has fallen 40% in one month. Roland Head asks if it’s time to start buying despite uncertainty about post-Covid profits.

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The Novacyt SA (LSE: NCYT) share price hit a high of 1,190p in January, but it’s fallen sharply since. As I write, the shares are trading at around 700p, meaning this biotech stock has dropped 40% in just one month.

That’s a painful decline, but I think it’s worth keeping in context. Novacyt shares are still worth 400% more than they were one year ago, thanks to the success of its Covid-19 testing kits. These were developed rapidly at the start of the pandemic to meet surging demand.

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An update today has confirmed the company is continuing to develop its Covid-19 product portfolio. However, we’ll have to wait until the second quarter of this year to learn more about Novacyt’s long-term plans.

For this reason, I think it’s fair to say there’s not much visibility on earnings once demand for Covid-19 products starts falling. As a potential investor, this is obviously a key risk. But I think it’s also an opportunity. If Novacyt can maintain its success, I believe it could become a more valuable business.

What happens after Covid-19?

The story so far is impressive. Novacyt’s sales rose from £11.5m in 2019 to £277m in 2020. Profits rose too. The company expects to report cash earnings before various costs of £187m for 2020. I’m not surprised Novacyt’s share price performed so well last year.

CEO Graham Mullis deserves full credit for his company’s impressive performance, in my view. But he still faces the challenge of making sure Novacyt’s newfound profitability doesn’t disappear when demand for Covid-19 products falls. Remember, until 2020, Novacyt had reported a loss every year since its flotation in 2012.

Mullis’ aim is to build “a sustainable, long-term diagnostics business.” One potential opportunity is Versalab, which aims to support private sector testing for infectious diseases. This service was launched in November 2020. It’s initially focused on Covid-19, but further tests are planned.

Novacyt share price: why I don’t think it’s cheap

Based on Novacyt’s expected earnings for 2020, the shares trade on about three times earnings. In my experience, when a company’s stock is rated this cheaply it means the market expects profits to fall.

That’s my view too. The company expects sales of Covid-19 products to be “strong throughout most of 2021.” But there’s little visibility beyond that.

This uncertainty is reflected in the latest forecasts from Novacyt’s house broker, which are available on its website. Earnings are expected to fall by around 17% in 2021, before dropping by around 65% in 2022.

Based on these forecasts, Novacyt’s current share price values the stock on about 12 times 2022 forecast earnings. That seems reasonable to me. But with no visibility on future earnings, it’s not cheap enough to persuade me to buy.

Novacyt’s technology has been a huge commercial and medical success during the pandemic. But without specialist medical knowledge, I’m not sure I can estimate how easily the firm’s will be able to expand into new areas.

For me, investing in a stock like this is too speculative. I won’t be buying, despite the possibility that Novacyt shares might be cheap today.

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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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