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Liberty Health Sciences: Stock Catalysts In The Lead

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JohnCM Member Level  Friday, 04/05/19 05:44:45 AM
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Liberty Health Sciences: Stock Catalysts In The Lead

Apr. 4, 2019 12:00 PM ET
Seeking Alpha

Liberty Health Sciences Inc. is a cannabis producer and is licensed to produce and sell medical cannabis products in Florida.

The company is building new assets at a fast pace, which should help push the share price up in the future.

The market should welcome the addition of CAD 19 million of greenhouse infrastructure in the most recent quarter.

Liberty Health Sciences shows an EV/Sales ratio of 17.6x. Other cannabis operators and companies with medical marijuana licenses are trading at 2x sales to 26x sales.

The amount of intangible assets is very significant, and it should be a concern for shareholders. The market should understand that these assets may get impaired in the future, which could lead to share price depreciation.

Liberty Health Sciences (OTCQX:LHSIF) is increasing its production capacity at a fast pace, which the market should welcome quite a bit. The company expects to be able to produce 14,600 kg of cannabis annually once its facilities are ready in spring 2019. All these features should represent serious stock catalysts. With that, the company is trading at 17.6x sales, which most cannabis investors may not see as a clear opportunity. There are other competitors trading at lower ratios.

Business

Founded in 2011, Liberty Health Sciences Inc. is a cannabis producer and is licensed to produce and sell medical cannabis products in Florida.

While the company is still a small-cap, the amount of dispensaries operating in Florida is extensive. As per the last press release on April 3, 2019. The company owns a list of well-known brands including that of Aphria (OTC:APHA):

With respect to the products sold, Liberty Health Sciences offers a long list of categories on its website. Capsules, CBD, sativa, THC, vaporizers and many other products related to the medical marijuana industry are offered by Liberty Health.

With regards to the amount of cultivation space, the company recently reported that it has 228,880 square feet in the Gainesville area. In addition, it expects to have the capacity to generate 14,600 kg of cannabis annually with its Chestnut Facility and the Liberty 360 Campus. The remaining greenhouse space is expected to come online in spring 2019. Investors should be ready as the share price could increase quite a bit if production capacity increases in 2019.

Balance Sheet

As of November 30, 2018, the most significant assets of Liberty Health are CAD 19 million in cash, inventory of CAD 6 million, capital assets worth CAD 54 million, and intangible assets worth CAD 46 million.

Let’s assess each type of asset. The most relevant capital assets are greenhouse infrastructure worth CAD 21 million and construction in progress worth CAD 23 million. The market should welcome the addition of greenhouse infrastructure in the most recent quarter worth CAD 19 million. Liberty Health is building new assets at a large pace, which should help push the share price up in the future.

The amount of intangible assets is very significant, and it should be a concern for shareholders. The market should understand that these assets may get impaired in the future, which could lead to share price depreciation. In addition, accountants many times have difficulties in assessing the value of intangible assets. In particular, intangible assets include e-commerce software, intellectual property, and licences.
With regards to the inventory, harvested cannabis is worth CAD 2.02 million, more than 1,800% than that in February 2018. It means that the company’s future revenue in 2019 should increase as the cannabis is packaged and sold.

The total amount of liabilities worth CAD 21 million is not elevated. However, the market should get to know that Liberty Health reports CAD 10.6 million in convertible notes payable. This item represents certain financial risk and dilution risk. Debt holders receive 12% interest per year and convert their notes into common stock at CAD 2 per share.

“In November 2017, the Company issued convertible secured debentures of US$12,000,000 ($15,465,600) (the “Notes”). The Notes bear interest of 12% per annum, payable semi-annually, and mature in November 2020. The notes are convertible into common shares of the Company at $2.00 per share. The Company has the right to convert the Notes into common shares if the Company’s shares are listed at a minimum of $3.00 per share for ten consecutive trading days, on a volume weighted average basis.”

Income Statement

Like other medical marijuana dispensaries, the recent increase in the amount of revenue is impressive. For the nine months ended November 30, 2018, Liberty Health reported revenue of CAD 6.5 million, much more than that in the period from May 1 to November 30, 2017, in which the figure was equal to CAD 0.17 million.

The cost of sales was equal to CAD 2.3 million in the nine months ended November 30, 2018, and total gross profit was equal to CAD 4.14 million. It means that Liberty Health is quite successful in terms of gross profit margin.

With that, the total operating expenses in the same time period were equal to CAD 16.8 million, and the net loss was CAD -18 million. The result is much better than that in the period from May 1 to November 30, 2017, in which the net loss was equal to CAD -24.8 million. However, the company is still far from its break-even point.

There is a relevant remark to be made about the most recent results. Liberty Health reported a change in fair value of biological assets of CAD 2.5 million. While this is ideal, it may not happen every year. If the price of cannabis declines in the future, the value of the company’s inventory may decline, which could lead to share price depreciation. It is a risk on this name that should be understood clearly.

Equity Structure And Market Capitalization

As shown in the image below, the number of shares outstanding increased from 185 million on April 30, 2017 to 342 million on November 30, 2018. This fact may be a matter of concern for investors. If the company keeps increasing its share count, the intrinsic valuation of the shares may decline.

In addition, the market should also take into account the warrants outstanding. As of November 30, 2018, they were equal to 36 million. Taking into account these securities, the total share count may be equal to approximately 378 million. Assuming this figure and the share price at $0.68, the total market capitalization should be equal to $257 million.

Valuation

With a market capitalization of $257 million and adding debt of CAD 10.6 million or $7.95 million, the enterprise value equals $264 million. For the nine months ended November 30, 2018, Liberty Health reported revenue of CAD 6.5 million or $4.88 million. With this figure in mind, assuming forward revenue of $15 million seems reasonable. Other cannabis operators reported this level of revenue growth in the past.

Taking into account forward sales of $15 million, Liberty Health Sciences shows an EV/Sales ratio of 17.6x. Other cannabis operators and companies with medical marijuana licenses are trading at 2x sales to 26x sales. With these figures in mind, Liberty Health Sciences does not appear to be a cheap competitor.

Conclusion

Trading at 17.6x sales, most cannabis investors may accept that Liberty Health does not represent a clear opportunity. Having said this, in spring 2019, the company expects to increase its production capacity, and it is currently reporting greenhouse infrastructure additions of 19 million every year. These features may represent serious stock catalysts that could make the share price increase even more. Keep in mind that capacity increases are many times welcomed by the market.



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