The Top 5 Brands In Canadian Recreational Cannabis

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Includes: ACB, APHA, CGC, CRON, HEXO, NWKRF, OGI, TAP, TLRY
by: Jonathan Cooper
Summary

The top five companies control a combined 73% of the Canadian recreational cannabis market.

Canopy Growth has a monster market share, more than twice as much as anyone else.

Each of the top five have great recreational sales which may translate to faster revenue growth over the coming quarters.

All dollar figures herein are Canadian dollars.

Canopy Growth has a leading market share in the Canadian recreational cannabis market.

Canada legalized recreational cannabis on Oct. 17, 2018.

The Canadian market continues to be in its infancy, as Canada's largest province only opened its first retail stores on April 1. In January, Canada sold only $53.4 million of recreational cannabis at retail at an annualized pace of $640 million/year. The Canadian recreational market is likely to grow 5x-10x this size over the next several years. It's very likely these market shares will change as the recreational cannabis market evolves, especially as Ontario and British Columbia become a larger proportion of national cannabis sales. However, early market share may show which companies are doing well in this emerging growth industry - and could lead to higher growth rates for these companies in the coming years.

Each major cannabis company has now released earnings reports which include recreational cannabis sales. We can now figure out the early winners and losers in the Canadian recreational cannabis market.

Canopy Growth has its own cannabis stores, branded as Tweed and Tokyo Smoke

Source: Canopy Growth.

1. Canopy Growth

Canadian Recreational Cannabis Market Share: 30%
Quarter End Date: 12/31/18
Cannabis Sold (Total): 10,102 kg
Cannabis Sold (Recreational): 8,288 kg
Revenue: $83m
Gross Margins ex-fair value adjustments: 22%
EBITDA ex-fair value adjustments: $(75m)
Operating Cash Flow: $(97m)
Enterprise Value: $18.7B
EV/Sales (annualized): 56x
EV/Recreational market share ($/% of market share): $626/pp
EV/Cannabis sold ($/gram): $463/gram

Canopy Growth (CGC) had a phenomenal December quarter. Prior to earnings, I had expected Canopy to miss analysts' C$85 million revenue target and had estimated that Canopy would earn 19% recreational cannabis market share in a January article on The Growth Operation.

Canopy blew both my expectations out of the water. Canopy earned a remarkable 30% market share in Canadian recreational cannabis, selling 8,288 kg equivalents in the recreational market and over ten tonnes of cannabis in total. Canopy benefits from operating its own stores and from selling cannabis in every province and territory in Canada as well as a market-leading production capacity.

Canopy's early recreational cannabis results are justifying Canopy's relatively premium pricing over its peers and Canopy has continued to be first among peers with their entry into the United States hemp market in January.

Aurora Cannabis sells more cannabis than anyone aside from Canopy Growth

Source: Aurora Cannabis.

2. Aurora Cannabis

Canadian Recreational Cannabis Market Share: 14%
Quarter End Date: 12/31/18
Cannabis Sold (Total): 6,999 kg
Cannabis Sold (Recreational): 3,807 kg
Revenue: $54m
Gross Margins ex-fair value adjustments: 52%
EBITDA ex-fair value adjustments: $(65m)
Operating Cash Flow: $(64m)
Enterprise Value: $12.6B
EV/Sales (annualized): 58x
EV/Recreational market share ($/% of market share): $914/pp
EV/Cannabis sold ($/gram): $448/gram

As with Canopy Growth, Aurora Cannabis (ACB) justified their second-place valuation in cannabis by turning in the second-best results in the Canadian recreational cannabis market.

Aurora came into earnings having to lower analyst expectations: Analysts had expected Aurora to report $67 million in net revenue in their December quarter. Aurora reset those expectations to a more realistic $50-$55 million in early January and then hit that target in February, generating $54 million in net revenue. In doing this, Aurora sold 3,807 kg equivalents of recreational cannabis, good for 14% market share in the Canadian recreational cannabis market. As with Canopy Growth, this market share exceeded my own expectations from January in an article on The Growth Operation, where I expected Aurora would earn 11% market share.

In addition to Aurora's recreational market share, they also produced more cannabis than Canopy Growth this quarter and sold more non-recreational cannabis than their larger competitor.

Hexo had a third-place market share in recreational cannabis despite its low valuation

Source: Hexo.

3. Hexo

Canadian Recreational Cannabis Market Share: 12%
Quarter End Date: 1/31/19
Cannabis Sold (Total): 2,689 kg
Cannabis Sold (Recreational): 2,537 kg
Revenue: $13m
Gross Margins ex-fair value adjustments: 52%
EBITDA ex-fair value adjustments: $(11m)
Operating Cash Flow: $(16m)
Enterprise Value: $2.2B
EV/Sales (annualized): 42x
EV/Recreational market share ($/% of market share): $191/pp
EV/Cannabis sold ($/gram): $209/gram

Perhaps surprising, Hexo (HEXO) pipped more valuable peers like Tilray (TLRY) and Cronos (CRON) to nab third place in recreational cannabis market share.

During Hexo's January quarter, the company sold 2,537 kg equivalents of cannabis to go alongside modest Canadian medical cannabis sales. Hexo achieved these third-place sales despite selling dry cannabis in only a single province: Quebec. Hexo also sold cannabis oils and sprays in British Columbia and Ontario, but the vast majority of their sales were in their home province of Quebec.

Even more surprisingly, Hexo achieved these results despite being supply constrained during the quarter. After the quarter ended, Hexo added more cultivation capacity and supply deals with its pending purchase of Newstrike Brands (OTCPK:NWKRF). Hexo's strong sales are the result of a supply deal with Quebec to supply more than 200,000 kilograms of cannabis to the province over five years, and do not include any contribution from Hexo's joint venture with Molson Coors (TAP).

Aphria successfully earned fourth place market share despite management turmoil.

Source: Aphria.

4. Aphria

Canadian Recreational Cannabis Market Share: 9%
Quarter End Date: 11/30/18
Cannabis Sold (Total): 3,409 kg
Cannabis Sold (Recreational): 1,947 kg
Revenue: $22m
Gross Margins ex-fair value adjustments: 47%
EBITDA ex-fair value adjustments: $(6m)
Operating Cash Flow: $(2m)
Enterprise Value: $3.0B
EV/Sales (annualized): 35x
EV/Recreational market share ($/% of market share): $322/pp
EV/Cannabis sold ($/gram): $220/gram

Aphria (APHA) is the fifth most costly cannabis company but surpassed two of its more valuable peers (Tilray and Cronos) in both revenue and cannabis sales in its November quarter.

Despite having only one-and-a-half months of recreational cannabis legality during its quarter, Aphria sold 1,947 kilogram equivalents of cannabis into the recreational market and generated over $22 million in net revenue. Aphria will look to build on these already-strong results when they report results for their February quarter on April 15, 2019.

It has been a tumultuous winter for Aphria, after short-seller allegations led to Aphria's CEO stepping down. Aphria looks to start this quarter in the right direction after receiving a Health Canada license to expand cannabis production in its Aphria One expansion project.

Organigram has industry-leading disclosure standards, far better than peers like Cronos, Tilray, and Supreme.

Source: Organigram.

5. Organigram

Canadian Recreational Cannabis Market Share: 8%
Quarter End Date: 11/30/18
Cannabis Sold (Total): 1,791 kg
Cannabis Sold (Recreational): 1,673 kg
Revenue: $12m
Gross Margins ex-fair value adjustments: 71%
EBITDA ex-fair value adjustments: $5m
Operating Cash Flow: $(15m)
Enterprise Value: $1.4B
EV/Sales (annualized): 28x
EV/Recreational market share ($/% of market share): $173/pp
EV/Cannabis sold ($/gram): $193/gram

As with Hexo, Organigram (OTCQX:OGRMF) is another potentially surprising entrant on this list. While Organigram is worth less than one fifth as much as Cronos and Tilray, it pipped both in recreational cannabis this quarter by selling 1,673 kilogram equivalents in their November quarter. These sales were good for 8% market share in the Canadian cannabis market.

In my coverage on The Growth Operation, I have been especially appreciative of Organigram's very detailed disclosures in their quarterly filings, including detailed breakdowns of Organigram's sales volume, unit revenue, and unit costs for both the medical and recreational market and by product categories. Organigram is a company with nothing to hide, since their results are phenomenal. While both Tilray and Cronos failed to even break out recreational cannabis sales.

Organigram continues building their Phase 4B expansion project with updates that include construction photos. Organigram has not announced when they will release their February quarter results, but last year's results were released on April 24, 2018.

Thoughts

Relative valuation comparison of each of Canopy Growth, Aurora, Hexo, Aphria, and Organigram.

This was a good quarter for all five of these companies. Each company has shown their ability to effectively operate in the Canadian recreational cannabis market by securing provincial supply deals, producing enough cannabis to supply those provinces, and attracting retail customers through a mix of marketing, pricing, availability, and quality.

Above is a comparison between each of these five companies based on their enterprise values and their annualized sales, recreational market share (in enterprise value per percentage point of market share, expressed in millions), and their cannabis sales (expressed in dollars of enterprise value per gram of cannabis sold last quarter). In each case, a lower value is better, although each of these three metrics are imperfect measurements of the value of a cannabis company.

Generally, the Canadian recreational cannabis market is expected to grow much more rapidly than the Canadian medical cannabis market. The latter market is relatively mature, since medical cannabis has been legal since 2001. Market growth will be driven by the opening of new retail stores and the legalization of edibles, beverages, and vapes, which may come in October 2019.

Canadian cannabis sales vary by province and territory, with Atlantic Canada and the Yukon leading the way.

It's unlikely that these early market shares will be permanent. Well-funded companies like Cronos and Tilray are likely to continue to compete for Canadian recreational cannabis dollars despite relatively poor starts. Canadian cannabis sales have been disproportionately distributed between provinces as well, with Atlantic Canada selling an over-sized portion of recreational cannabis thanks to strong launches in Prince Edward Island and Nova Scotia. It's likely that these results have helped Organigram in particular, as they are based in Atlantic Canada. Over the next few years, the gap in per capita cannabis sales between provinces will narrow, benefiting companies that are strong in Ontario, Quebec, and British Columbia.

Happy investing!

Disclosure: I am/we are long CGC, HEXO, OGRMF. 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.