We think so.
This year we have seen some very big acquisitions/consolidations in the Cannabis Industry. The year started with Aurora’s (hostile) acquisition of CanniMed, followed by Hiku’s purchase (or merger if you like) of WeedMD. Last month came the breaking news that Aurora is going to purchase MedReleaf in an all-stock deal. These are some pretty big deals and one thing is for certain, there will be more.
The Tier 1 Players
Consider the current Licensed Producer space. The above table from New Cannabis Ventures, depicts the industry’s largest LP’s ranked by quarterly revenue. These are considered Tier 1 producers (categorised as companies that turn more than $4m in revenue per quarter).
The Tier 2 Players
Below them sit a host of Tier 2 producers (categorised as revenue-producing, but less than $4m per quarter). As you can see, there are a lot of them.
And therein lies the problem. There are too many of them. Right now, the word on everyone’s lips is “supply”. Will there be enough to meet the coming demand driven by recreational legalisation in Canada? The short-term answer is no. No way at all. Current demand is estimated to be in and around the 800,000kg per annum mark. Current production capacity (that can actually be produced, not “will be produced”) is around 100,000kg. You don’t need to be a genius to do the math. There will be shortages. Big time.
However, that will change. And quickly. As the big players like Canopy, Aurora, Aphria and CannTrust start producing millions of kilograms between them, the pendulum will quickly shift in favour of supply and once again, the equilibrium will be out of kilt.
What does this mean? Well, in simple terms, most of the Tier 2 players are not going to make it, and hardly any of the Tier 3 (LP’s that have yet to even produce a dollar of revenue) will make it. The Tier 2 players are going to have to either seriously differentiate and carve out a niche in the market, be acquired, or they will simply wither and die. It sounds harsh, but most will fall into the last 2 categories. Be acquired, or simply fade away.
They are simply not going to be able to scale, leverage that scale to create low costs of production and have enough access to capital to drive local and international expansion. This is the stark reality facing the Tier 2 players.
Aurora buys CanniMed. Essentially Aurora was buying a business with strong assets, great international reach, a huge number of registered medicinal marijuana patients, and access to high-quality medicinal oils. This increased their scale both in terms of patients and production.
Now Aurora is buying MedReleaf. Same thing. First off it gives them a presence in Ontario (Canada’s largest province and still yet to announce who will be it’s suppliers to the recreational market). It also gives them a huge increase in production – particularly of oils (MedReleaf is one of the Canadian market leaders in oil production and sales), it diversified their execution risk of getting Aurora Sky up an running (efficiently) in time, and most importantly, it also came with a huge cash balance.
Now, speaking of cash balances, consider Hiku’s purchase (merger) of WeedMD. This also makes good sense. First off, they compliment each other perfectly. Hiku is completely recreationally and retail focused and WeedMD is purely a medicinal play. They were already strategic partners, cover different geographic areas of Canada, create a diversified offering and most importantly, WeedMD came with a bucket load of cash. Completely overcapitalised.
Hiku saw this as an opportunity to better deploy the cash into retail expansion as opposed to simply building more cultivation capacity (remember at some point getting supply will NOT be an issue).
So, who could be next?
So with all of the above in mind, I feel there is a very strong acquisition candidate that could well be bought out in the coming months. I give you Emblem.
As some of our older members know, we have had Emblem on our radar for sometime now. A quick recap of the business. Emblem is a licensed producer of Medical Cannabis in Canada, led by a team of former Healthcare & Pharma Executives who have built & run multi-billion dollar companies.
It was founded by John H Stewart, the former President and CEO of Purdue Pharma – the make of Oxycontin and one of the largest privately held pharmaceutical companies in the world – who heads up their pharmaceutical division where they have a patent application for a time-released cannabinoid pain killer. A gold mine waiting to happen.
Uniquely positioned within the vastly-growing medical and recreational cannabis industry, their targeted strategy flows across three distinct verticals of cannabis production [Emblem Cannabis], patient education [GrowWise], and pharmaceutical R&D [Emblem Pharmaceutical]. Emblem are a truly integrated solution.
They are currently a Tier 2 producer with 2018 Q1 revenues of $1.3m but importantly, they are starting to outperform some of their other Tier 2 counterparts (such as ABcann Global and MariCann). They have finally started selling their oils and analysts have predicted 2019 revenue of $51m and EPS of $0.01.
Importantly, they have over $83m sitting in cash in the bank. They are overcapitalised and hence a potential suitor could either utilise this asset or use it to reduce the cost of the company.
With a current market cap of only $140m and a price to earnings ratio of only 1.84, this is the best-valued LP in the industry. If they were able to up their recent investment in Fire and Flower (a chain of retail focussed dispensaries) to potentially acquire them outright, then they would have a very diversified offering, solid IP, a great management team and a massive cash balance.
Who might buy them, well there could be a number of suiters. First off one of the larger LP’s may buy them (my thinking here would be Aphria as one example) or a pharmaceutical company looking to gain entry into the industry. It could, of course, be an industry outsider like a tobacco or alcohol company too.
While I do not think you should necessarily be buying Emblem simply because it could get bought out, I do believe the company is performing well, has a solid management team with the necessary experience and has a cash balance that makes it very favourable for acquisition. And as we have seen time and time again, when the acquirers do come calling, they always pay a big premium for the company. You heard it here first!