Aphria Inc (fka APHA)

[FUNMAN]

LPs Rethinking Their M&A Strategy
Feb. 25, 2020 3:05 PM ET

By: Cornerstone Investments
Long/short equity, long-term horizon, cannabis industry

IMO, I think the article writer's suggestion of an M&A between Aphria and HEXO, is that it would be a huge mistake for Aphria.

When Hexo goes belly up, Molson will still be looking for a beverage partner.

Moreover, there are a lot of beverage partners available. Why pay a premium to save HEXO just for an "in" to Molson? - FUNMAN

Read the article at this link to see the charts and graphs:

https://seekingalpha.com/article/4327015-weekly-cannabis-report-lps-rethinking-m-strategy

Summary

* It was a relatively quiet week with few announcements before the earnings season picks up again.

* We discuss why companies will likely combine to survive in this downturn as financing becomes scarce for the sector.

* While the Canadian market faces consolidation, we think the U.S. market possesses greater growth potential.

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

Trading Summary

The Horizons Marijuana Life Sciences Index ETF (HMLSF) lost 0.2%, the ETFMG Alternative Harvest ETF (MJ) rose 0.3%, and the Horizons U.S. Marijuana Index ETF dropped 1.8%.



(Source: Bloomberg)

Canada:

It was a relatively quiet week as more companies gear up for the earnings season. So far, Aurora (ACB) and Canopy (CGC) have given mixed signals on the Canadian sector outlook. Tilray (TLRY) rose 11% last week without news. OrganiGram (OGI) dropped 1% after introducing its vape pens and infused chocolates to the market. Valens (OTCQB:VLNCF) gained 5% after announcing its first international order from Australia.



(Source: Author, based on public data)

The U.S. and International:

It was also a quiet week in the U.S. Harvest Health (OTCQX:HRVSF) was flat after acquiring a small Arizona operator for an undisclosed sum. Planet 13 (OTCQB:PLNHF) jumped on Friday after a company called dosist opened a shop-in-shop within its Las Vegas store.



(Source: Author, based on public data)

Industry News

* OrganiGram announced the rollout of its 2.0 products including vape pens and cannabis-infused chocolates across Canada

* Valens announced that it will ship its first international shipment of white-label cannabis tinctures to Australia in Q2 2020

* Australis, a spin-off from Aurora, announced the termination of its merger agreement with Folium citing due diligence findings

* Harvest Health announced the acquisition of a local Arizona cannabis operator with 4 vertical medical licenses

* Planet 13 jumped on Friday after a start-up called dosist launched a shop-in-shop within Planet 13's store in Las Vegas

Looking Ahead

During our coverage of the Canadian cannabis sector, we have seen several large acquisitions in the space. Notably, the very first large acquisition was when Mettrum was acquired by Canopy for C$430 million in December 2016. After that, Aurora stole the show by announcing its hostile takeover of CanniMed and subsequently acquired MedReleaf in a friendly deal worth C$3.2 billion. Since then, there have a few smaller transactions including HEXO's acquisition of Newstrike for C$263 million. We also saw the innovative acquisition of Acreage Holdings by Canopy. As we think about the future M&A landscape in Canada, the most likely deal would be a combination of two medium-sized LPs looking for scale and financial stability.



As an example, one potential combination that could fit this criterion is a combination of Aphria (APHA) and HEXO (HEXO). Both companies are sub-scale compared with Canopy and, to a lesser extent now, with Aurora. A combination would be a logical step to create one of the undisputed top 3 cannabis players in Canada. Besides the obvious industrial logic, efficiency, and cost savings, a combination would also complement each company's strength and address the weakness by leveraging Aphria's international and extract assets and Hexo's partnership with Molson Coors for cannabis-infused beverages. Both firms have suffered steep losses in the stock market with HEXO underperforming the sector due to its recent financings and an ill-timed acquisition of Newstrike.

However, a combination could improve investor sentiment by providing better access to capital by being a larger issuer, having more investors, retaining more talent, and combining financial resources. This is only one example of why companies would seek to combine in order to survive in this downturn.


(Source: Bloomberg)

In the long run, we believe the Canadian cannabis market will be survived by only a small number of large-scale low-cost producers. The current downturn will continue to wipe out weak and unsophisticated companies. Margins will remain under pressure until excess capacities are eliminated and demand for legal cannabis products improves. We think that the future M&A trend in Canada will be focused on survival, unlike the earlier pursuit for scale and dominance. For investors, it means more pain in the near-term until the shake-out period is over. Many more firms will fail, as we have seen recently, and surviving companies still require substantial resources to avoid going belly up. The example of a potential combination of Aphria and HEXO is only one of the many potential deals that might happen as the industry consolidates and rationalizes after a disappointing start to legalization. We remain of the view that the U.S. cannabis market holds better growth opportunities for companies and the potential federal legalization is the single biggest catalyst down the road.

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.