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Weekly Cannabis Report: We Are Entering Cannabis 2.0

Summary

We are back after a three-week break!

The cannabis sector continues to drift sideways amid a lack of catalysts and mounting concern over delays in legalization in Canada.

The domestic market will be oversupplied in a few years, leaving international markets critical to support current valuations.

We are launching a comprehensive set of analysis on the cannabis sector targeting under-covered stocks and all-important topics.

Welcome to our Weekly Cannabis Report, a reliable source for cannabis investors to receive the latest developments and analysis.

Foreword

For the past month, we have taken the time to develop one of the most comprehensive coverages on the cannabis sector for readers. As we announced in this blog post, we will start releasing our research to help investors prepare for the anticipated legalization. In the coming weeks, we anticipate releasing in-depth research reports on over 25 cannabis stocks that we have not covered before to help investors broaden their investment horizon - most of these stocks have no coverage at all on Seeking Alpha!

We will then move on to discuss important topics on the overall industry development including legalization, pricing, demand, black market, government, etc. Lastly, we will also continue to provide comprehensive coverage on large-cap names and believe they will continue to deliver superior returns for investors.

Weekly Note to Readers

Turning to the cannabis stocks, the past month has seen the sector continue to stay relatively quiet. As we last wrote in our report "The Slow Grind," the sector is likely to see a period of muted trading given the lack of catalysts beyond legalization. We believe the sector will continue to consolidate through M&A (such as the merger of Hiku and WeedMD) and recognition among investors to focus on cannabis 2.0.

We think investors initially focused on license and capacities during the early days of cannabis investing during 2015 to 2017, and we are starting to see investors moving to focus on brands, distribution, and international expansions after the downturn kicked after January 2018.

We think the domestic battle is currently under full display at the moment as competition intensifies on provincial deals and the all-important distribution channels. Frankly, the cannabis cultivation technology and production facilities no longer represent a barrier to entry given investors have abundant access to capital and the short amount of time required to set up cannabis productions. It has proven to be not too difficult to find a warehouse and funding to start a sizable cannabis production.

After we spent the last month researching dozens of cannabis companies, we have formed our core belief that the domestic Canadian cannabis scene will be a combination of a number of large producers and a selection of niche players that targets specific markets. The existing number of cannabis players is large and we think some of them will not be able to survive post-legalization. Until now, investors have given many cannabis companies the benefit of doubt despite lackluster performance and progress.

However, this will change once the industry becomes legal and investors start to scrutinize results from cannabis companies. Out of the 59 Canadian cannabis companies we cover in this weekly report, the total market capitalization currently stands at $26.3 billion.

The prevailing estimate for the total sales of the Canadian market in a mature state is $6-$8 billion and we think the cannabis industry will trade in-line with sectors such as alcohol, liquor, and spirits, implying that the current total market capitalization is very rich and potentially already included most of the upside. That's why we think the sector will see another wave of consolidation, either through M&A or bankruptcy, similar to how the global tobacco industry consolidated over time.

Sector Developments

Coffee chain operator Second Cup (OTC:SCUPF) recently announced on April 12th that it will get into the marijuana business by converting some of its coffee shops into weed shops, through a partnership with National Access Cannabis. The duo will look to apply for retail dispensary licenses in provinces where private retailing will be allowed. So far, Manitoba has announced the awarding of four retail licenses, leaving Alberta and British Columbia the two largest private markets to be announced.

We think the news shows that the competition for retailing licenses will be fierce as many existing coffee shops and pharmacies will seek to get into the retail business. Stocks that will be impacted include those looking to focus on the retail side of the cannabis business and Hiku comes to mind as a company that will likely face tough competition in the upcoming RFPs.

Image result for second cup logo Hiku (OTCPK:DJACF) announced the merger with WeedMD (OTCPK:WDDMF) in a transaction that values WeedMD at roughly $240 million on the announcement date. Hiku will become the surviving entity post the transaction and will own a little more than half of the combined entity. So far, the market reaction has been muted as the share price of Hiku dropped 6% on the announcement. It is also noteworthy that as of last Friday, the implied offer price of $2.37 (Hiku share price $1.67 * 1.4185) is 22% higher than WeedMD's closing share price of $1.95.

What this means is that the market is skeptical of the transaction closing and foresees difficulties in the completion of the deal. We are not sure of those uncertainties just yet but plan to do more work and publish our views. Also note that we will publish our in-depth research of Hiku soon, stay tuned.

Aurora announced yet another major expansion that will see the company adding 1.2 million square feet and 150,000 kg to its funded capacity. The facility will be called "Aurora Sun" and will be built by Aurora's wholly-owned subsidiary, Larssen. The addition will boost Aurora's current funded capacity of 280,000 kg per year to 430,000 kg per annum. The company now serves over 4,500 medical patients in Canada and is aggressively expanding in Europe and abroad.

It is clear to us that the newly announced facility will be purposed for the international markets. The domestic Canadian markets are undergoing a round of frenetic capacity building, which will most likely result in an oversupplied market in a couple of years' time when all expansion projects are completed. However, the bigger market for Canadian companies is in Europe, Australia and other markets that are legalizing marijuana. The share price did not react to the announcement, reinforcing our view that under cannabis 2.0, investors have moved away from capacity and licenses to focus more on brands, distribution, and international markets.

Hydropothecary (HYYDF) announced the signing of a 5-year agreement with the Quebec government. The contracted volume for the first three years will be 20,000, 35,000 and 45,000 kg, leaving the last two years to be determined after year three. The shares of THC rallied on the news, supporting our favorable view of the stock given its solid execution and dominant performance in its local market. We also like THC for its inexpensive valuation and potential to expand beyond Quebec, which could result in the additional upside. We think the deal terms are straightforward and represent significant value for companies involved.

However, on the other hand, the deal proves our viewpoint that companies without provincial deals will face an insurmountable wall when trying to sell their products. Imagine how would another cannabis company break into the Quebec market without the provincial deal? We think the announcement is excellent news for parties involved while dealing a fatal blow to smaller LPs that have no prospect of getting any provincial deals this year.

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Stock Performance

Since we last published our weekly report on March 20, the past month has seen another month of muted performance in the cannabis sector. Most stocks drifted lower or flat during the month. One thing to highlight is that so far the actively managed funds have not proven to be able to deliver superior performance versus the passive index funds. Both Evolve and Redwood's actively managed marijuana ETFs have not outperformed the passive index funds, especially during the downturn we are seeing right now. We have published a comprehensive guide to all the marijuana ETFs here.

  • Top Gainer: Canadian Cannabis gained 22% this week.
  • Top Loser: Cannabix Technologies lost 13% this week.
  • Large Caps: Most of them are flat to slightly down during the week
  • Cannabis ETFs: HMMJ down 1%, HMJR down 1%, MJ down 2%, Evolve down 3% and Redwood gained 1% during the week
Name Currency Ticker Market Value Price Return 1W Return 3M Return YTD
Canopy Growth Corp CAD (TWMJF) $6,056 $30.52 (1%) (18%) (6%)
Aurora Cannabis Inc CAD (ACBFF) $4,903 $8.74 (2%) (40%) (26%)
Aphria Inc CAD (APHQF) $2,246 $10.75 (12%) (51%) (47%)
MedReleaf Corp CAD (OTCPK:MEDFF) $1,985 $19.81 (1%) (19%) (26%)
Cronos Group Inc CAD (CRON) $1,641 $9.54 (2%) (14%) (6%)
CannTrust CAD (CNTTF) $643 $6.95 1% (39%) (30%)
Hydropothecary Corp/The CAD (HYYDF) $767 $4.28 0% (13%) (4%)
Cannabis Wheaton Income CAD (OTCQX:CBWTF) $662 $1.56 (3%) (28%) (27%)
Emerald Health Therapeutics Inc CAD (OTCQX:EMHTF) $590 $4.86 (5%) (43%) (26%)
Organigram Holdings Inc CAD (OGRMF) $490 $3.93 (2%) (19%) (13%)
Terrascend Corp CAD (OTCQX:TRSSF) $378 $4.00 3% 22% 18%
Supreme Cannabis Co Inc/The CAD (OTCQX:SPRWF) $430 $1.70 (1%) (37%) (37%)
Insys Therapeutics Inc USD (INSY) $517 $7.01 12% (27%) (39%)
Auscann Group Holdings Ltd AUD (OTCPK:ACNNF) $385 $1.41 (1%) (13%) 75%
Cann Group Ltd AUD (OTCPK:CNGGF) $412 $2.95 (3%) (12%) 3%
Hiku Brands CAD (DJACF) $230 $1.69 (6%) (63%) (33%)
ABcann Global Corp CAD (ABCCF) $310 $1.65 4% (44%) (6%)
Radient Technologies Inc CAD (OTC:RDDTF) $303 $1.35 1% (30%) (23%)
Liberty Health Sciences Inc CAD (OTCQX:LHSIF) $291 $0.96 3% (45%) (61%)
22Nd Century Group Inc USD (XXII) $283 $2.28 (3%) (45%) (29%)
Village Farms International Inc CAD (VFFIF) $211 $4.98 (1%) (43%) (40%)
MPX Bioceutical Corp CAD (OTCQX:MPXEF) $285 $0.79 (12%) (6%) (29%)
Sunniva CAD (OTCQB:SNNVF) $260 $8.48 (7%) (27%) n.a.
MYM Nutraceuticals Inc CAD (OTCQB:MYMMF) $201 $1.86 6% (44%) (54%)
Maricann Group Inc CAD (OTCQB:MRRCF) $184 $1.72 (6%) (59%) (40%)
Cannabix Technologies Inc CAD (OTCPK:BLOZF) $175 $1.92 (13%) (28%) (36%)
THC Biomed INTL. Ltd CAD (OTCQX:THCBF) $156 $1.34 (6%) (35%) (10%)
Icc Labs Inc CAD (OTC:ICCLF) $208 $1.51 7% 4% 26%
Weedmd Inc CAD (WDDMF) $206 $2.05 28% (26%) (19%)
Innovative Industrial Properties USD (IIPR) $216 $31.85 (4%) 14% (12%)
CannaRoyalty Corp CAD (CNNRF) $228 $4.45 5% (7%) (6%)
InMed Pharmaceuticals Inc CAD (OTCQX:IMLFF) $167 $1.27 (5%) (14%) (29%)
Harvest One Cannabis Inc CAD (OTCPK:HRVOF) $139 $0.93 (2%) (51%) (32%)
Golden Leaf Holdings Inc CAD (OTCQB:GLDFF) $151 $0.27 (5%) (32%) (38%)
Benchmark Botanics Inc CAD (OTCPK:BHHKF) $168 $1.25 (6%) (36%) 10%
Friday Night Inc CAD (OTCQB:TGIFF) $137 $0.62 (10%) (25%) (50%)
Valens Groworks Corp CAD (MYMSF) $123 $1.70 (3%) (36%) (42%)
Invictus MD CAD (OTCQX:IVITF) $151 $1.88 (4%) (18%) 10%
Emblem Corp CAD (OTCQX:EMMBF) $164 $1.57 (4%) (32%) (36%)
Tetra Bio-Pharma Inc CAD (OTCQB:TBPMF) $105 $0.76 -- (55%) (49%)
Maple Leaf Green World Inc CAD (OTCQX:MGWFF) $120 $0.80 (2%) (41%) (36%)
Delta 9 Cannabis Inc CAD (OTCQX:VRNDF) $118 $1.49 (1%) (46%) (47%)
Nutritional High International Inc CAD (OTCQB:SPLIF) $119 $0.43 (7%) (40%) (51%)
Zynerba Pharmaceuticals Inc USD (ZYNE) $139 $10.25 2% (11%) (21%)
Mgc Pharmaceuticals Ltd AUD (OTCPK:MGCLF) $95 $0.08 (8%) (25%) (15%)
Beleave Inc CAD (OTCQX:BLEVF) $73 $1.75 (10%) (34%) (37%)
Lifestyle Delivery Systems Inc CAD (OTCQX:LDSYF) $86 $0.80 (6%) (12%) (44%)
Marapharm Ventures Inc CAD (MRPHF) $75 $0.69 -- (22%) (40%)
Wildflower Marijuana Inc CAD (OTCQB:WLDFF) $84 $1.41 7% (27%) (17%)
Hydroponic Co Ltd AUD (OTCPK:HDRPF) $75 #N/A N/A n.a. n.a. n.a.
Indiva Ltd CAD (RMKXD) $63 $0.78 4% (35%) (38%)
Hempco Food And Fiber Inc CAD (OTC:HMPPF) $70 $1.41 (2%) (15%) (33%)
PUF Ventures Inc CAD (PUFXF) $48 $0.83 (6%) (48%) (45%)
Liberty Leaf Holdings CAD (OTCQB:LIBFF) $43 $0.41 17% (49%) (50%)
Canada House Wellness Group Inc CAD (SARSD) $29 $0.24 (4%) (61%) (68%)
Veritas Pharma Inc CAD (OTCPK:VRTHF) $22 $0.44 (12%) (45%) (50%)
Naturally Splendid Enterprises Ltd CAD (OTCQB:NSPDF) $20 $0.21 (9%) (43%) (45%)
Canadian Cannabis Corp USD (OTCPK:CCAN) $18 $0.57 31% (17%) (25%)
Horizons Life Sciences ETF CAD (HMLSF) $697 $16.85 (1%) (28%) (19%)
Horizons Junior Growers ETF CAD (HZEMF) $13 $8.49 (1%) n.a. n.a.
ETFMG Alternative Harvest ETF USD (MJ) $370 $29.39 (2%) (23%) (17%)
Evolve Marijuana ETF CAD (SEED.TO) $3 $17.44 (3%) n.a. n.a.
Redwood Marijuana Opportunities Fund CAD (MJJ.TO) $9 $18.12 1% n.a. n.a.

Additional Resources

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.