3 Assessment of opportunities and risks in overall presentation

The current risk identification and assessment has been conducted in all areas of BRAIN. This section discusses the risks that have reached a potential loss amount of € 500 thousand at Group level. The Management Board is informed of all identified risks as part of regular reporting.

The assessment of risks was consolidated at Group level and the individual risks with a loss potential in excess of € 500 thousand were assessed in detail.

This report follows the segmentation of the BRAIN Biotech Group:

• The BioProducts segment mainly consists of its industrially scalable products business focusing on specialized enzymes and proteins.
• The BioScience segment mainly includes research and development business with industrial partners, and the company’s own research and development. This segment also includes the commercialization of our own products and developments with external partners.

The analysis of the BioIncubator segment also includes an event after the balance sheet date: BRAIN Biotech AG signed an exclusive technology license agreement with Akribion Therapeutics GmbH for the genome editing nuclease G-dase E® for the pharmaceutical sector. The risks associated with this segment are assessed on the basis of the new business model. The BRAIN Biotech Group’s risk profile has improved significantly due to this transaction.

BRAIN evaluated a total of 92 risks. Of these, 21 risks are classified as having a loss potential of in excess of € 500 thousand. The risks relate to the BioProducts and BioScience segments and the holding company. The risks in the BioIncubator segment are included within the assessment of the BioScience segment. The financial risks for the entire BRAIN Biotech Group are assessed at the level of the Holding company.

As the risk assessment in the new risk model has been conducted for the first time, it is not yet possible to provide information about any year-on-year changes. In addition, due to the new risk assessment methodology, it is not possible to present the scoring of the previous financial year on the same basis as this financial year. However, in order to maintain the link to the risks of the previous financial year, under “3.4 Pro memoria risks” we report again on the risks that are not indirectly assessed within the top risks.

The risks per business segment are explained in the course of this section.

3.1 BioProducts

The following risks are rated as top risks for the “BioProducts” segment. The potential annual EBITDA losses per risk are categorized as follows:

The following section describes in greater detail the risks that could lead to a potential annual EBITDA loss of in excess of € 500 thousand (“high” and “medium” risk categories).

Business-related risks

The quantitative risk assessment that is conducted enables a direct comparison of risks. In the BioProducts segment, the growth risk (“high” risk level), the raw material supply chain risk (“high” risk category), and the legal change risk (“high” risk level) are categorized as the most significant business-related risks.

Growth risk and raw material supply chain risk

Given BRAIN’s planned growth and its need to hold resources ready for such growth, risks exist in relation to a lower growth rate, and consequently potential negative effects on the operating result. A risk exists that fewer customers and cooperation partners than planned are found. Macroeconomic trends or relationships with existing customers could also deteriorate and the markets to be served could reduce in volume or attractiveness. This could lead to BRAIN achieving lower growth long-term, or to reduced earnings. In addition, the risk exists that costs are higher than budgeted, or that developments require more time. As a consequence, BRAIN’s growth could be delayed and growing the positive operating results might be achieved later than planned.

The risk of a major impact on EBITDA due to unexpected customer losses is countered by further diversifying customer contribution margins.

Supply chain risk stabilized further in the reporting year, although the uncertain geopolitical situation is continuing to cause increased uncertainty with regard to the future development of this risk. The inflation rate in Europe is continuing to decrease and is considered sufficiently stable by the ECB. However, divergence in terms of inflation and growth rates is evident within Europe. Hardly any growth is expected for Germany, while at the same time this is accompanied by relatively low inflation. In France and other Southern European countries, higher growth is coupled with higher government debt, which could lead to a rise in inflation.

Core euro inflation (inflation rate corrected for energy and food price trends) remains at a level of between 2.7 % and 3 %. This level lies structurally above the central bank’s target, which makes a continued cycle of interest rate cuts less likely for the time being. This indicates a risk of a longer-term effect that will manifest itself in further demands for wage increases. This risk affects the entire BRAIN Biotech Group.

Risks of legal changes

Legal change risks relate to restrictions that can have an impact on both revenue and costs. One example could be a ban on certain production methods that makes the further processing of organic products into food impossible.

As different legal and regulatory situations exist worldwide, BRAIN’s customers may be confronted with new requirements that could lead to revenue losses or cost increases due to the procurement of more expensive raw materials.

Product compliance risks

The BioProducts segment supplies products to customers that require certain quality characteristics in order to fulfil various requirements in different legal systems. This requires that precautions be taken during production. Although the BioProducts segment has largely reduced the risk of non-compliance through processes and controls, a risk still exists that a non-compliant product will be produced or supplied inadvertently. As such risk events can also imply customer losses in addition to claims for damages, this risk is assigned a “medium” risk level.

3.2 BioScience

The following risks are rated as top risks for the “BioScience” segment. The potential annual EBITDA losses per risk are categorized as follows:

The following section describes in greater detail the respective risks that could lead to a potential annual EBTIDA loss of in excess of € 500 thousand (“high” and “medium” risk categories).

Personnel risks

The BioScience segment requires in-depth knowledge and skills in all areas, most of which must be acquired within the company. This also applies to staff who work in business development and advance BioScience initiatives with customers. This risk is rated as “high” (personnel 2, both for the Potsdam and Zwingenberg sites).

Overall, BRAIN employs well-trained staff who constantly acquire further expertise in the context of the company’s operating activities. Recent years’ trends show that some positions can be filled only at great expense due to a lack of skilled staff, especially scientists, engineers and laboratory staff who already possess experience. In some instances, we note that some competitors have higher salary structures. This leads to the risk that qualified staff might defect to competitors if our financial and non-financial incentives were to prove inadequate. A bonus program for BRAIN Biotech AG staff was already established in the 2015/16 financial year in order to provide adequate incentivization. This program is subject to annual approval by the Management Board. This risk is assigned a “medium” risk level.

The risk of losing key knowledge holders is rated relatively higher than in previous years. Other risks are assigned significantly lower risk level due to the exclusive technology license agreement with Akribion Therapeutics GmbH for the genome editing nuclease G-dase E® for the pharmaceutical sector.

Economic risk 1

The economic situation changed in this financial year. In particular, growth rates are slowing in most economic zones. The geopolitical situation has also altered and this is leading to increased caution among (potential) cooperation partners.

We counter this risk with a diversified sales approach in order to spread the risk across the various sectors, as they are not all affected by the economic situation in the same manner. In addition, the sales pipeline is being intensively processed and optimized, taking into consideration the chances of success. This risk is assigned a “high” risk level.

IT risk 2

IT risks exist in relation to the availability of systems and data as well as the integrity and exclusivity of data. Such risks can manifest themselves due to both errors and deliberate actions. The latter are allocated to the area of cyber risks. In addition, cybercrime attacks have increased significantly in recent years.

BRAIN has implemented adequate measures to manage IT risks as well as possible. Such measures mainly consist of ongoing staff training, IT security measures such as firewalls, virus scanners, network protection, data encryption, prompt updating of software used, authentication with multiple factors, and the implementation of regular data backups. As far as data exclusivity is concerned, a data protection officer has been appointed to ensure compliance with the General Data Protection Regulation (GDPR) within BRAIN. For both the Potsdam and the Zwingenberg sites, this risk is assigned a “medium” risk level.

Legal risk 5

BRAIN is a research company whose strategy is based on a competitive intellectual property foundation. A possibility of becoming involved in significant patent litigation exists, but would presumably exert no direct effects on BRAIN’s results. Existing patent disputes either exert only minor effects on results, or are unlikely to lead to any material damage.

The main risk in this context would be a company claiming freedom to operate. As issued patents become ever more closely intermeshed as intellectual property assets issued internationally, it is becoming increasingly difficult to find all relevant patents in corresponding patent research. This could lead to the risk of patents not being located under certain circumstances, with the potential risk that patents might be infringed unintentionally.

This risk is assigned to the “medium” risk category.

3.3 Financial risks

Financial risks are reviewed regularly. The Group has internal guidelines to identify, investigate, and evaluate financial risks at an early stage. Simultaneous comparison with planning is facilitated through monthly and quarterly written reports as well as ongoing communication with responsible managers. Depending on the extent of divergences in relation to planning, BRAIN managerial functions have sufficient time to implement countermeasures. The Group-wide reporting document for all Group areas has continued to be further developed and improved this year.

Financing risks at subsidiaries

In light of revenue and earnings growth at some subsidiaries, and availability of resources for expansive growth, a risk exists that losses will be incurred if the subsidiaries generate lower growth. Under certain circumstances, this could lead to financing problems or financial accounting situations that might necessitate the application of impairment losses to tangible assets.

This concerns the BioScience and BioProducts operating segments. This risk is rated as “low”.

Goodwill impairment / valuation of investments

This financial risk relates to the BioScience and BioProducts operating segments. Unfavorable future developments could potentially entail the application of impairment losses to acquired goodwill and other intangible assets deriving from corporate acquisitions. This risk is assigned to the “low” risk category.

Further information about this topic is presented in the section entitled “Impairment tests” in the notes to the consolidated financial statements.

Financing risk

At present, the company is increasingly raising debt and hybrid capital at the holding company level as an alternative to equity financing.

Due to the continued growth of the operating business in the BioProducts and BioScience segments, a need for capital will continue to exist in the next two years to cover the negative operating cash flows. The financing risk consists of competitive disadvantages due to a higher debt-to-equity ratio as well as potentially rising interest rates and requirements for loan collateralization. The company has already taken appropriate measures to secure liquidity for the coming year, such as the provision of additional financing at holding company level. Moreover, a significant volume of liquidity, amounting to € 18.41 gross, was received by the company as part of the Royalty Pharma transaction. These measures will enable the company to meet its planned payment obligations beyond the end of the 2024/25 financial year.

This risk affects all operating segments as well as the holding company and is rated as “medium”.

Financing of option liabilities

As at 30 September 2024, BRAIN holds € 27.2 million of cash. In addition, BRAIN has access to a € 7.0 million loan facility which has been partially utilized (€ 5.0 million utilized as at the 30 September 2024 reporting date). The credit line has a term until 30 June 2025. We assume that the put options for the remaining shares in Weriol/Breatec will be exercised by the non-controlling shareholders in the first possible period (1 January to 31 March 2025). This would impact liquidity by up to € 3.2 million in the 2024/25 financial year.

For this reason, this risk is categorized overall as a “low” risk and relates to the BioProducts segment.

Currency risk

The currency risk consists of a negative exchange rate trend in relation to the currency positions that BRAIN holds. These mainly comprise USD and GBP risks. This risk is assessed as “low” and relates to the BioProducts segment. The risk is increasingly mitigated by reducing the USD position by shifting to EU suppliers and through natural hedging strategies. The latter is realized through growth in USD revenue.

Moreover, options to expand production capacity within the EU are planned in order to further reduce the GBP cost risk. This risk is assigned a “low” risk level.

Interest rate risk

The interest rate risk consists of a rising market interest rate trend that makes it more expensive for BRAIN to procure liquidity. In the previous reporting year, the ECB significantly raised its reference interest rate, which led to tangibly higher liquidity procurement costs. The situation eased somewhat in the reporting year thanks to a reduction in interest rates. Overall, the consequences for BRAIN remain manageable, as the existing loans were further reduced and restructured into longer-term liabilities. Although the advance payment received from Royalty Pharma is recognized under liabilities, it does not itself bear any interest rate risk. This risk is assigned a “low” risk level.

Risk reporting on the deployment of financial instruments

At BRAIN, financial instruments^[4] are deployed only to an extent that is not relevant to assess the Group’s financial position and performance, or its prospective development. For further information, please refer to the “Risk management” section in the notes to the consolidated financial statements.

3.4 Pro memoria risks

This section presents the risks from the previous year that were not considered to be top risks in the current assessment and as a consequence were not analyzed in detail. These risks are highlighted once again in order to maintain the link to the risks described last year.

Legal risks

BRAIN generally endeavors to avoid legal risks and has taken precautions to appraise and measure legal risks. Legal areas entailing one potential risk relate to litigation in the case of patents and licenses, matters in the regulatory law/capital market area, and relating to general litigation with international firms.

Due to the increasing industrialization and internationalization of BRAIN’s business, the risk of litigation with an international corporate group is also increasing. BRAIN currently appraises the probability that contractual risks will lead to litigation as low. A lawsuit would exert a negative effect on results. Quantification cannot be estimated at present as no significant litigation exists.

Compliance risks

BRAIN is subject to many legal and regulatory requirements in an international context. These requirements are recorded, and relevant training courses are organized within BRAIN. In addition, regular checks are conducted in order to ensure compliance with regulations.

Specific individuals have been appointed for the areas of occupational health and safety as well as data protection. This risk is categorized as a pro memoria risk and affects all three operating segments as well as the holding company. Separately from this, the physical safety risk (HSE) for the BioProducts segment is categorized among the 11 top risks (see table in 3.1 BioProducts).

Inflation and energy supplies

BRAIN depends on a stable supply of gas, oil and electricity to operate its business properly. Gas and electricity, in particular, play a crucial role in R&D operations, the production of enzymes and other products, and the preservation of our bioarchives.

For this reason, sufficient and uninterrupted energy supplies are essential for the BRAIN Biotech Group, and form a basis for our full-year guidance. BRAIN is a supplier to the food and pharmaceutical industries in major sub-segments and is likely to be classified as systemically important in these areas. The volumes of energy required in research operations and other sub-operations lie in the basic supply range, which makes the risk of a shutdown similar to the household sector. In addition to risks arising from supply security, BRAIN also faces cost risks from significant energy price increases and energy price fluctuations. These may not be passed on to customers in full or only with a time delay. This could have a negative impact on the Group’s profitability.

The situation in the energy market stabilized further in the reporting year. However, concerns over elevated price volatility remain, and prices could easily rise again if the geopolitical situation were to deteriorate.

Material damage to the BioArchive or research results

The Group’s bioarchives are physically present mainly at BRAIN Biotech AG in Zwingenberg and Potsdam. Physical loss of the archives is minimized through various measures. A redundant setup exists at various locations, as well as a security concept, and staff are trained in archive handling and management.

An insurance concept also exists to cover most of the potential costs to remedy potential losses. The physical measures as well as the insurance concept are reviewed annually and are updated as required in order to reduce the risk to BRAIN even further.

It remains the case that individual research results could also be destroyed by external circumstances. However, these are sufficiently covered by various measures such as interruption-free emergency power supplies. Various measures to safeguard the BioArchive continued to be implemented during the past financial year. Due to the reduction in risk as a consequence of the measures taken, this risk is now assessed as “low”.

3.5 Sustainability and ESG

Sustainability forms a central element of our corporate strategy. With our bio-based products and services, we contribute to more sustainable growth for our customers and cooperation partners. For this reason, BRAIN also identifies the politically-led transformation of the economy towards sustainable economic cycles as a clear opportunity for the company to generate accelerated growth. This accelerated growth prospect applies to all business areas. BRAIN itself also regularly reviews its own business activities in relation to its own sustainability targets.

BRAIN Biotech AG voluntarily published its first sustainability report in 2022. Accordingly, we defined ambitious sustainability targets for 2032 and 2050. With the approval of the Annual General Meeting in 2023, these sustainability targets have also been directly incorporated into the new compensation scheme for the Management Board. On the Management Board, the CFO is directly responsible for the implementation of the ESG strategy. At operational level, an ESG manager as well as further officers at the respective Group companies bear related responsibility. The entire Supervisory Board is jointly responsible for the further development and implementation of the ESG strategy. BRAIN Biotech AG publishes an annual ESG Data Sheet with important key figures relating to corporate sustainability development. BRAIN also publishes an annual declaration as part of the German Sustainability Code (DNK) and the United Nations Global Compact. In order to fully comply with future statutory sustainability reporting obligations, BRAIN has already invested in a software-assisted solution for the systematic collection of non-financial data and will launch a company-wide CSRD reporting project at the beginning of 2025. From the company’s perspective, this leads to more opportunities than risks on an overall basis.

In the 2022/23 financial year, we started with specific projects to implement the ESG strategy, and continued to pursue them consistently in the 2023/24 financial year. These include several measures such as the commissioning of photovoltaic systems at the Zwingenberg and Cardiff sites, as well as the partial switch to external procurement of green electricity and a number of further measures to improve energy savings, labor productivity, work flexibility, and work ergonomics.