NORTH AMERICAN UPDATE
HEXO & TILRAY
A month ago we observed the following:
Hexo is probably in the worst position of all three. They aren’t profitable, will never be profitable, and owe lots of money that’s coming due.
Buying Zenabis and 48 North, neither of which made any strategic sense, given how poorly those businesses were performing, required more money to be borrowed or raised through more share issuance. Then overpaying for Redecan just dug the hole even deeper. And given the Hexo business itself was always unprofitable, the business simply could not generate any profits to help pay for them.
So now the business sits in, what we consider to be huge financial peril. They are slashing costs everywhere, closing facilities and firing employees, spending very little time on innovation or consumer research or value proposition generation – because they simply can’t, they don’t have the time and they don’t have the money.
We have always predicted that Aurora was our number one choice for first large Canadian cannabis producer to go insolvent, but with the rash decisions over the last year and the need now for a share consolidation (because their share price has dropped below $1 and is in breach of their listing requirements), Hexo is doing everything in their power to take over that position.
Calculators don’t have enough digits on them to display the aggregate losses which have been posted by these three “leading cannabis companies” and their multitude of subsidiaries – it is truly multiple billions of dollars.
It is starting to seem that all of the “mug punters” who were willing to invest on the promises of the original (and subsequent) CEOs are starting to dry-up and so now Canopy is entirely reliant on Constellation’s desire not to admit that it took a huge bath on its investment (and the inevitable write-down on its own balance sheet that would follow) and Hexo is begging the shareholders who have already lost their shirts to invest more to prevent it being ejected from the Nasdaq exchange (which upon which it listed with such fanfare less than 12 months ago), which itself was a transfer from the NYSE.
The manner in which Hexo wrestled with the likelihood of being thrown off the Nasdaq on which it is quoted, was something akin to two people on a life raft, dripping blood into the water while surrounded by sharks – they secured help from someone who would be the next to die once they went: in an unusual transaction, the virtually bankrupt company (Hexo) persuaded the almost bankrupt company (Tilray) to use the last dregs of its inheritance (the Constellation money) to buy its debt – to the tune of $211,000,000 – which it could then convert into (worthless) stock.
Tilray must have hoped that its largesse would help Hexo bounce back and instill confidence in the longevity of the pair. Unfortunately, its probably thrown the lead weights (which were already tied to both their ankles) overboard from the raft such that the debate is now not “will they survive”, but simply “will they drown or be eaten by the sharks in their race to the bottom”?
Hexo have released its half-year financials to the period ending 31/1/22. One must assume that Tilray saw these figures, but perhaps such is the twisted world of Canadian Cannabis that they thought that they were not that bad – if that’s the case, then Tilray shareholder can only dream (in that nightmare-ish way), as to what they will see when their own financials are released.
Enough of the build-up, let’s cut to the chase – since 2016 Hexo has lost $1.6 billion.
Hexo’s net losses for the financial years ending 31st July are:
2016: $3.4 million
2017: $12.4 million
2018: $23.3 million
2019: $69.6 million
2020: $546.5 million
2021: $113.6 million
2022: $828.2 million (2 quarters)
One suspects that the only other financials which will exhibit the same multiplier are the Compensation Packages of some of the C-Suite.
THE OTHER CANADIAN MARKET MARTICIPANTS
It is rather shocking that Hexo’s losses only get them onto the lowest level of the “Loss Podium”, the losses of the top (or bottom) 10 “market leaders” have losses of
£12.7 billion and are as follows:
- Aurora $4.3 billion
- Canopy $3.2 billion
- Hexo $1.6 billion
- Old Tilray $1.3 billion
- SNDL $755.5 million
- APH $561 million
- TGOD $472.1 million
- OGI $277 million
- ZENA $240 million
- New Tilray $28.8 million
AURORA
Aurora is seeking to bolster its premium pot strategy by acquiring TerraFarma Inc., the parent company of Thrive Cannabis. The deal announced on Tuesday will see Thrive amalgamate with a subsidiary of Aurora, which will acquire all of TerraFarma’s issued and outstanding shares in exchange for $38 million in cash and Aurora shares.
Thrive will also be eligible for up to $20 million in shares, cash or both, if it reaches revenue targets within two years of the transaction.
As is standard these days, the CEOs of both companies are claiming that it is a great deal form everyone – customers, employees and shareholders – but we are not so sure (to put it lightly). The questions we would ask are: “if TerraFarma was doing so well, why would they sell their business to Aurora cannabis? And why would they take stock as any part of the price – a stock that has the potential to go to zero?”
For our part it is just another example in this industry of two companies which have never identified a product offering that enough consumers want to buy on a regular basis to make them profitable, merging to make a bigger company which is in no different position and where the claimed cost savings from the asserted synergies will never materialise to the level that is needed to cover the costs and disruption engendered by the merger.
CRESCO LABS AND COLOMBIAN CARE
To us there appear to be three make or break considerations for the Cresco Labs-Columbia Care Deal.
“The amateurs discuss tactics: the professionals discuss logistics.”
Napoleon’s famous dictum is a good analogy to gage whether this deal will prove to be transformative. Success will ultimately come down to whether Cresco can operationally realise the deal’s strategic potential.
On paper this transaction looks like a win-win between two large, well-run companies. Yet, accretive value is not decided on paper. Its unlocked in the operational, management and cultural trenches where the synergies and savings are realized. Yet, all too often these last 10 yards is where most deals run asunder.
The harsh reality is that in 80% of the cases M&A fails to build shareholder value. Put another way, the typical consummated transaction (often led by skilled corporate deal makers in well-established industries) begins behind the eight ball.
The success or failure of this deal will hinge on three untested management assumptions:
1.Can Columbia Care be integrated smoothly and in due course? It’s tough to say but we do not see any cannabis companies with a proven and repeatable post merger/acquisition integration capability.
2.Can the synergies, ‘de-levering’ and cost savings be captured quickly enough? Difficult to comment without seeing the value capture (i.e. integration, rationalisation, licensing) plan but it is also clear that this is always a tall mountain to climb. When your combined entity has multiple corporate strategies and businesses (retail, wholesale, brands and cultivation) and are in the thick of license land grabs in new markets, it is no easy task to find the time and resources to rationalise costs and drive synergies – whatever those are.
3.Can the deal overcome regulatory hurdles? Hard to say right now but part of this transaction’s success will also hinge on ‘if’ and ‘when’ meaningful US federal reform comes to pass. If State or Federal regulations create insurmountable hurdles or tarries too long, major asset divestment will be in order, hurting overall value creation.
We should not forget that even strong M&A rationales come with the usual deal gripes. For this transaction, some are already arguing that the acquisition price was too high (in a time of depressed industry valuations) and that Cresco shareholders got too diluted.
