October 22, 2015 — SRFF LLP Partner Gregory Sichenzia was interviewed this week by MergerMarket, a leading provider of news and analysis on the M&A markets. Sichenzia discussed the current state of legal cannabis companies in reference to how the industry could change if and when Canada legalized recreational marijuana use. Read the full article below:
Medical marijuana players have high hopes for legalization under Canada’s new PM
As of Monday, Canada has a new prime minister, Justin Trudeau, who has indicated he wants to legalize the recreational use of marijuana. If the new leader is able to bring his plan to fruition, the sector could see a number of changes, including more US companies establishing a footprint in Canada, and possible consolidation among existing cannabis players, according to sources already participating in the space.
While cannabis is legal for medical use in the country, legalization at the recreational level is likely to accelerate consolidation among marijuana companies in Canada, these sources agreed.
Though some stocks of medical marijuana producers attracted significant interest last year, many have seen their share prices fall as the “euphoria” has worn off, noted Gregory Sichenzia of Sichenzia Ross Friedman Ference LLP, a legal firm in New York that advises clients including Denver, Colorado-based General Cannabis (OTC:CANN).
“People started to realize these were companies just run by stoners, and the bloom came off that rose,” Sichenzia said.
As a result, much of the present consolidation in the cannabis space is due to struggling companies just trying to survive due to the lack of capital, noted Brendan Kennedy, chief executive of Oregon-based Privateer Holdings, a private equity firm that invests exclusively in the legal marijuana industry.
If a shift to legal recreational use does occur, Kennedy said he could see the market and opportunities for profitable consolidation in the sector to grow. Privateer, for its part, plans to stay focused on the medical side of the business until it is clear how the rules regarding recreational pot play out, he said.
Meanwhile, Benjamin Ward, CEO of Canadian Cannabis Corp. (OTC PINK: CCAN), with a market cap of CAD 80m, added that while raising capital has been tough in the current medical marijuana sector, it could loosen somewhat under a broader system that includes the much larger recreational arena.
His company is frequently approached by targets seeking a buyer, and just this week Canadian Cannabis announced plans to acquire Hydopothecary Corporation, based in Quebec, for USD 23m.
US players watching with interest
General Cannabis CEO Robert Frichtel said he has been paying close attention to Canada and could try to enter the country through its recently expanded consulting arm.
Along with consulting, General Cannabis specializes in financing, infrastructure, security and real estate, and Frichtel said consulting services will be in demand due to the potential influx of new cultivation companies seeking help in controlling costs and yields.
Frichtel’s near-term M&A wish list includes companies with expertise in the marijuana testing space, along with monitoring/remote camera systems and lighting systems.
Big Tobacco
Big Tobacco players could ultimately become interested in taking over large portions of the marijuana players, once the market turns to recreational use and smaller players start to consolidate, said analyst Aaron Salz of Dundee Securities.
While suggestions have been made that pharma companies would be part of the takeover action for larger marijuana companies, Salz said that Big Tobacco takeovers would be more likely. He noted that tobacco producers have the capability to grow, distribute and process marijuana.
Possible targets
A number of the larger, emerging marijuana players could eventually attract the interest of companies that wish to enter the sector, including the Big Tobacco players, agreed an industry banker. Among the possible targets he mentioned were Aphria (TSX:APH), Canopy Growth (TSX:CGC), and Mettrum (TSX: MT), which are all based in Ontario.
In the case of Canopy (formerly Tweed Marijuana, which bought Bedrocan Cannabis Corp in the summer in an all-stock deal worth about CAD 60m), the company’s brand has been well-positioned to move from medical to recreational use, the banker said. Canopy has a market cap of CAD 217m.
Aphria is headed by CEO Vic Neufeld, who made his mark as head of privately held vitamin company Jamieson Laboratories Ltd , which was sold to CCMP Capital in early 2014 for CAD 300m. In addition, the banker described Mettrum as a multi-licensed producer with strong expansion capacity.
Salz noted that the industry is still small, worth about CAD 80m for medical marijuana. He said there are 25 companies with licenses from Health Canada to sell the drug.
However, if fully legalized in Canada, Salz estimated it could grow to as much as CAD 2bn to CAD 5bn annually very quickly. It is estimated the medical market alone could reach CAD 1.2bn by 2024.
Financing challenges
The industry banker suggested that while the future looks promising for marijuana companies hoping to raise capital, as valuations (now at about 4 X Enterprise Value/EBITDA) will likely more than double, it is likely traditional banks will wait to see how legalized recreational use will unfold.
“We’re still going to see most banks stay shy of getting involved in this field, for a while at least, with family offices and private investors still making up the bulk of money that supports these players, as well as retail investors through publicly traded entities.
GMP Securities, Dundee Securities and M Partners Inc have served as underwriters to Canopy. Other financiers of marijuana businesses in the US include MJIC and Poseidon Asset Management.
A US-based banker with a major Canadian bank said, “Banks don’t touch it in the US because they don’t.” He said because marijuana is a cash business, is “unseemly,” and has “connections to the underworld,” the bank does not wish to take on the risk associated with financing companies in the industry. “No fee is worth it,” he said.
The marijuana growing industry also has little to no barrier to entry, noted a managing director at a VC firm based in Boston, Massachusetts that makes early stage investments, primarily in life sciences. He said this is primarily what makes the sector unattractive from an investment point of view, but he said elements of the ancillary business could have growth potential.
Companies that make products like grow lights, for example, may have better growth prospects in the short term, Sichenzia also said. General Cannabis, his client, he noted, is primarily a real estate company.
“The closer you are to the leaf, the more controversial,” said Sichenzia.
by Zena Olijnyk in Toronto, Heather West in San Francisco and Jeff Hawkins in Charlotte, North Carolina
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