Canopy Growth announced a plan to acquire cannabis lifestyle company and future cannabis retailer Hiku Brands for $250 million.
Shareholders of Hiku (CNSX: HIKU) will receive .046 shares of Canopy Growth Corp (TSE: WEED) for each share they own, equal to a stock price of $1.91, a 33% premium compared to Hiku’s share price from the last 20 days.
This purchase by Canopy may serve as the best example yet of the cannabis industry’s all consuming desire to diversify at any cost.
We always had our doubts about the acquisition strategy of many of the companies and with the largest players flush with cash, it seems they’re just making bets left and right, at any cost, in hopes that enough will work out to paper over losses at the inevitable losers.
What Did Canopy Get in Return for $250 Million?
Looking through the balance sheet of Hiku, it’s clear to see this was not a deal priced on physical assets.
Did Canopy buy Hiku for the stores?
As of March 30, 2018, Hiku had hard assets of $43 million including cash, property, equipment, land, and their inventory of marijuana.
Subtract the $10 million breakup fee owed to WebMd, current liabilities, and remaining debt of $11 million and you’re left with only $22 million in hard assets, 90% of it cash.
Canopy effectively paid $250 million for $20 million of assets. That’s $33 million for each of the 7 coffee shops in the Tokyo Smoke chain.
We personally visited one of the five Toronto locations and can confirm Tokyo Smoke is nothing more than a coffee machine, a 4-foot bar and 2 feet of display featuring glossy brochures, rolling papers, and a grinder card.
For some perspective, Starbucks trades for $2.6 million per store and this is for retail locations that generate $800,000 in annual sales compared to the Tokyo Smoke stores which are each on pace to sell $210,000 of coffee and rolling papers in 2018.
Coffee shops were clearly not the reason for this deal.
What about the growing capacity?
If Canopy paid a net $230 million for the 660 kg of currently funded growing capacity at DOJA premium craft cannabis it would set a record for the most expensive capacity deal in the cannabis space.
A purchase price of $345 per gram would set a record unlikely to ever be broken in the history of the global cannabis trade.
For the sake of investors we have to hope additional growing capacity was not the driver of this deal either.
Bruce Linton Effectively Paid $250 Million for a “Vision”
Alan Gertner is the founder and mastermind behind the Tokyo Smoke brand.
He previously worked in a business role at Google, but has promised to bring a cutting edge design and lifestyle sensibility to cannabis retailing.
Pitches like this must have been what convinced Canopy to go all in on a dream.
Bruce Linton wanted to buy a brand and that’s exactly what he got and nothing more.
A String of Bad Deals for Canopy
With the announcement of this deal Canopy now has done at least three deals we would consider highly suspect.
The first was the decision to buy out their joint venture partner in BC Tweed for $374 million only 8 months after forming the joint venture.
The only asset the partner contributed was a 1.3 million sq ft greenhouse in need of a retrofit which Canopy was on the hook for funding.
The second was paying $96 million for Colombian Cannabis S.A.S in what was effectively the expensive purchase of a cultivation and sales license. Management also chose to make a payment of $56 million just to entice Antonio Droghetti to become head of the new Latin America subsidiary.
And now Hiku marks a third transaction with a hazy rationale and obscene acquisition price.
Roll-up acquisition strategies are wonderful (e.g. Valeant) until they aren’t so wonderful anymore.
Expanding at “any” cost typically always end in tears for shareholders (not so much for management).
There’s always a deal that breaks the market’s back, the one that makes absolutely no sense on any valuation metric, outlandish in every way.
Canopy’s Hiku acquisition certainly has all the hallmarks of a bizarre transaction the market simply can’t shrug off.
Institutional money should and likely will sell Canopy tomorrow on the back of this acquisition.
Portfolio managers and analysts are already challenged with an extreme valuation on the name, an out-there transaction like this is usually the death cross.