Green Thumb Industries Inc (GTBIF)

[FUNMAN]

Green Thumb Industries: U.S. Cannabis Market Leader With 200% Upside

Oct. 25, 2021 9:18 AM ET

https://seekingalpha.com/article/4461773-green-thumb-industries-us-cannabis-market-leader?mail_subject=gtbif-green-thumb-industries-u-s-cannabis-market-leader-with-200-upside&utm_campaign=rta-stock-article&utm_content=link-0&utm_medium=email&utm_source=seeking_alpha

Summary

Green Thumb Industries is a premier multi-state operator ("MSO") in the high growth cannabis industry with a presence in 14 markets including IL, PA, FL, NJ, MA, and NY.

Shares are trading at 12.0x FY22 EBITDA which is very attractive considering the Company’s top-line growth (+33% in FY22) and EBITDA margin profile (+37% in FY22).

The U.S. cannabis industry is still in its infancy and has many years of double-digit sales growth ahead of it.

Green Thumb Industries shares are likely to rally upon an uplisting to the NYSE/NASDAQ or the Federal legalization of cannabis. On a fundamental basis, we see at least 200% upside.



Green Thumb Industries is a cannabis consumer packaged goods company that has built an impressive national footprint over the past seven years while growing quickly and profitably
Green Thumb Industries (OTCQX:GTBIF) manufactures, distributes, and markets its own cannabis consumer packaged goods along with those produced by third-parties. Its in-house brands include Beboe, Dogwalkers, Dr. Solomon's, incredibles, Rythm, and The Feel Collection. GTBIF offers customers cannabis products across a wide swath of form factors including flower, pre-rolls, vapes, edibles, and concentrates. Its products target medical and adult-use consumers where permitted.



Source: company Presentation

GTBIF was founded by current CEO and Chairman Ben Kovler in 2014 as a medical cannabis operator in Illinois. Since then, GTBIF has expanded into 14 states with a retail footprint of 65 dispensaries in both medical and adult-use markets. The company also has the right to expand its presence to 114 locations with the retail licenses that it controls, a potential 75% increase in its retail footprint. The company's retail and wholesale operations are supported by 16 cultivation and manufacturing facilities and over 3,000 employees.

Critically, the company has built scale in the markets in which it operates. As shown in the table below, the company has multiple dispensaries in most of its markets. In Illinois GTBIF is one store shy of the legal limit, and it has reached the maximum number of dispensaries in New Jersey and Connecticut. In Pennsylvania, GTBIF is one of the largest cannabis operators with 16 operational dispensaries. Each state operates independently, thus limiting the benefits of national scale. Therefore, it is important to build meaningful operations where possible, which GTBIF has clearly done.



Source: company Press Releases

Management has grown the company through a combination of license wins (33) and M&A transactions (17) since 2015. The company's footprint now includes a mix of active adult-use markets (CA, NV, CO, IL and MA), pending adult-use markets (NY, NJ, VA, CT) and medical markets (OH, PA, MD, RI, and FL). With nearly $360 million of cash on the balance sheet, it is likely the company will enter additional markets in the coming years.



Source: company Presentation

In addition to its product brands, the company has spent considerable resources to develop its retail brand, RISE, which offers customers an omnichannel shopping experience. The company's successful retail platform is evident by strong same-store-sales growth which was +7% sequentially and +34% year-over-year in the most recent quarter. As the company has yet to reach retail store limits in some of its markets, investors should expect the continued roll-out of new locations in the years ahead. Opening new dispensaries will boost revenues but also build new customer relationships and expand the company's brand loyalty among current customers.



Source: company Presentation

The management team is led by Chairman and CEO Ben Kovler. Mr. Kovler's family has a long history operating in newly legalized industries as his great-grandfather, Harry Blum, revived the Jim Beam Distilling Co. after Prohibition ended. Mr. Kovler has run GTBIF effectively since its founding and the management team is extremely well-considered having consistently beaten sell-side estimates since inception. Shareholders are also well aligned with Mr. Kovler who owns more than 10% of the shares outstanding. The management team is extremely focused on growing the business smartly (i.e. leaning into limited license markets where they can scale), which should bode well for the long-term.

Despite its limited operating history, GTBIF has been able to both grow quickly and achieve attractive margins and profitability. In the most recent quarter, GTBIF reported revenue growth of +14.1% sequentially and +85.4% versus the prior year period. At the same time, the company reported its fourth consecutive quarter of positive GAAP net income, and adjusted EBITDA margins of 35.7% as shown in the chart below.



Source: company Presentation

Investors however should not confuse management's ability to achieve profitability with business maturity. As shown in the table below, strong growth is expected to continue without even considering the potential revenues from new adult-use markets opening in the years ahead.



Source: Bloomberg; $ in millions

Green Thumb operates in some of the most attractive cannabis markets in the U.S., many of which have yet to legalize or launch adult-use cannabis sales
GTBIF's success has been in large part due to its dominant position in Illinois and deep presence in other markets. Illinois's cannabis market originally opened in 2013 after the Illinois General Assembly passed the Compassionate Use of Medical Cannabis Pilot Program Act. An already robust market was further expanded when adult recreational cannabis sales launched in January 2020. With annualized run-rate sales in excess of $1.46 billion and expectations to reach $3 billion, Illinois has become one of the largest legal cannabis markets in the world.



Source: Illinois Department of Financial and Professional Regulation

GTBIF, which entered the Illinois market in 2015, has nine retail locations and two manufacturing facilities in the state, resulting in an estimated top three market share. Illinois permits operators to have a maximum of 10 retail dispensaries so shareholders can expect future growth in the state to come from the expansion of GTBIF's wholesale operations.

Illinois, like most of the states in which GTBIF operates, is a limited license state, effectively creating a regulated oligopoly for market participants. GTBIF's strategy is to establish a leading market presence in similar limited license markets in the U.S. For example, the company's next major growth opportunity is likely to come from the launch of adult-use sales in New Jersey in the coming months.

In November 2020, New Jersey residents voted to legalize adult-use cannabis via a ballot initiative. While it took some months for the New Jersey Cannabis Regulatory Commission to set rules, it is anticipated that adult-use retails sales will commence late fourth quarter of this year or early first quarter of 2022. GTBIF is in an excellent position in the state with three operational dispensaries in Bloomfield, Paramus, and Paterson. New Jersey has the potential to be a massive market for cannabis operators as the state boasts a population of 8.9 million and will be the closest adult-use market for residents of Pennsylvania, New York, Connecticut and Delaware, particularly those living in the greater metropolitan areas of New York City and Philadelphia. While New Jersey will not remain the only state in the area offering adult-use products, GTBIF's operations in New York and Connecticut ensure that the company should not expect any major sales declines once those states launch adult-use sales in the next 12 - 24 months.

The attractive limited license dynamics in Illinois and New Jersey are similar in New York, Pennsylvania, Ohio, Connecticut, Virginia, Florida, Massachusetts, Nevada, and Maryland. Given that the majority of these states have yet to legalize or launch adult-use sales, GTBIF has a long runway of growth ahead of it.

Green Thumb's size, growth, and profitability are not fairly reflected in its valuation
While the U.S. cannabis industry is in the early innings, many of the U.S. operators have already built sizeable platforms, GTBIF among them. GTBIF is expected to report over $900 million in revenues for FY21, comfortably placing it in the top three of the largest publicly-listed MSOs as shown in the table below.



Source: Bloomberg

Due to its status as a Federal illegal substance, U.S. cannabis operators have not been able to easily access traditional debt and equity markets. As such, they have needed to be self-sufficient earlier on in their business lifecycle than most companies typically would be. GTBIF is no exception and despite its wide footprint, the company has been able to consistently generate strong margins. In the most recent quarter, GTBIF reported adjusted EBITDA margins of nearly 36%, comfortably placing it in the top four of the U.S. MSOs.



Source: Bloomberg

With revenues expected to grow +62% and +33% in FY21 and FY22, respectively, along with an EBITDA margin exceeding 35%, GTBIF should command a premium multiple on its shares. Yet, this remains far from the case. GTBIF shares trade at 12.0x FY22 EV/EBITDA which leads its peers (see chart below) but compares very favorably to Canadian cannabis firms and other consumer package goods companies with inferior growth and margins. To that point, Canadian cannabis companies trade at a median EV/FY22 EBITDA multiple of 39x and a diverse group of alcohol companies trade at an average EV/FY22 EBITDA multiple of 15.9x while top-line growth has averaged +1.6% over the past three years.



Source: Bloomberg

The performance to-date and future trajectory of GTBIF and the rest of the U.S. MSOs is tied to the success of the U.S. cannabis industry which is shaping up to be one of the great American growth stories.

The U.S. cannabis industry is still in its infancy and has a multi-year runway of double-digit growth ahead of it
Since 1996 when California legalized medical cannabis with the passage of Proposition 215, medical and adult-use legalization efforts have continued across the country. As of October 22, 2021, 19 states have legalized marijuana for recreational use, while 37 states allow medical cannabis with more states expected to join the ranks in the coming years. The number of legal markets meaningfully increased in the past year as residents of Arizona, Montana, South Dakota, and New Jersey voted to legalize adult-use cannabis in their respective states and voters in Mississippi and South Dakota legalized medical cannabis. In 2021, legislatures in Virginia, New Mexico, New York and Connecticut, passed bills permitting adult-use. At this point, over 70% of the U.S. population has access to some form of legal cannabis.



Source: MJBizDaily

As legal cannabis markets open, supply from licensed operators will meet already strong consumer demand. The industry generated $17.5 billion in legal sales in 2020 which is only a fraction of total illicit sales in the country. Over the next ten years, Cowen estimates the total (legal and illegal) U.S. cannabis market will reach $100 billion, representing an overall compound annual growth rate ("CAGR") of +5% and a +16% CAGR for legal adult-use retail sales as shown in the chart below.



Source: Cowen

In addition to the shift from illicit to legal sales, growth of legal cannabis consumption is coming from increasing incidence rates in legal markets and the introduction of form factors beyond traditional flower (e.g. edibles, topicals, and oils).

However, despite the industry tailwind, GTBIF shares, like many other cannabis stocks, trade at a significant discount to fair value. This valuation disconnect can be understood through a currently limited investor base due to the following issues:

Restricted trading/clearing. Large banks including Bank of New York Mellon, Credit Suisse, and Bank of America have restricted clients from trading stocks of companies engaged in the plant-touching aspects of the cannabis business in the United States as they do not want to be party to any transactions that run counter to Federal law. In addition, platforms like Robinhood do not offer access to these stocks as they trade over-the-counter (OTC), which Robinhood does not support.
Compliance restrictions. As cannabis remains illegal at the Federal level, many asset managers have stayed clear of the industry. Some firms that have entered the industry, like Wasatch Global, have been forced to liquidate their holdings due to orders from compliance. The lack of institutional ownership reduces the pool of buyers substantially as compared to other companies.


Source: Morningstar

Limited sell side coverage. While U.S. cannabis companies have received coverage from firms like Cowen, Piper Sandler, Canaccord and Stifel, the large U.S. banking institutions (e.g. Morgan Stanley, JPMorgan, Goldman Sachs, BoA, Citi, etc.) have yet to cover a single U.S. MSO further limiting the dissemination of the attractiveness of the industry.
Once these restrictions are lifted, investors are likely to see a significant increase in demand for shares in GTBIF and U.S. cannabis operators generally.

Potential legislation at the Federal level may allow Green Thumb to list on a primary exchange and improve its access to capital
Multiple legislative efforts are being pursued at the Federal level that, if passed, will provide GTBIF and other MSOs with improved access to capital and the ability to uplist, which would likely result in a flood of new capital entering the space.

In December, the House passed the Marijuana Opportunity Reinvestment and Expungement ("MORE") Act, which would legalize cannabis at the Federal level. While the bill has yet to reach the Senate floor, the historic nature of the passage in the House should not be ignored. With its passage, Congress has made it clear that cannabis regulation is an important issue that they plan on addressing. And in July 2021, Senate Majority Leader Chuck Schumer (D-NY) proposed his long awaited draft bill, the Cannabis Administration and Opportunity ("CAO") Act, which would decriminalize cannabis at the Federal level. While Schumer admitted that he does not have the necessary votes today to get the bill passed, it indicates the importance of the issue at the highest levels of the Senate.

Two other bills under consideration, the STATES Act and SAFE Act, would not go as far as the MORE Act or CAO Act, but would still be beneficial to operators. The most likely to pass, the SAFE Act, would not legalize cannabis, but it would allow banks to work with cannabis operators and not risk punishment by Federal regulators. The passing of new legislation would be extremely helpful for U.S. MSOs who have been forced to issue debt at high rates (+10%) or issue dilutive equity in order to raise capital. Access to the banking system would reduce operators' cost of capital dramatically, resulting in better margins and higher returns on capital. Furthermore, the SAFE Act may also include changes to the 280E tax rule that currently is a major issue for cannabis companies, as it results in effective tax rates way beyond what these companies would pay if they were federally legal businesses. A split Senate may make passage of a more limited bill like the SAFE Act difficult, but with cannabis now legal in many "red" states, it will only be a matter of time before Congress acts.

Valuation
While investors would expect a company like GTBIF with its growth and margins to trade at a premium to most companies, GTBIF's shares, like much of the U.S. cannabis operators, trades at a significant discount to its fair value due to the technical, not fundamental, reasons previously discussed.



Source: Needham

We believe that GTBIF should trade at least as well as its Canadian peers (TLRY, CGC, ACB, CRON, OGI, HEXO and SNDL), which have a median multiple of 39x FY22 EBITDA. At that level, investors would realize over a 200% return from current prices. Given that GTBIF is significantly more profitable than any of the Canadian cannabis companies listed, it should arguably trade at a premium to the group.



Source: Author

Risks
Federal illegality. Cannabis remains a Schedule I drug and all uses (medical and otherwise) are illegal at the Federal level. While cannabis operators in states where cannabis legal have been left alone, the administration's policy could change and the business of the U.S. MSOs may be at risk.
Section 280E. As cannabis illegal at the Federal level, all U.S. MSOs are subject to the 280E tax rule. In short, Section 280E disallows companies that engage in illegal activities to deduct operating expenses from their taxable income. As such, U.S. MSOs are taxed on their gross profits which creates a significant tax burden and limits net income profitability. If cannabis remains illegal or other measures are not passed to address this issue, GTBIF and other cannabis companies will continue to have a very high effective tax rate.


Source: Morningstar

Access to capital markets. As cannabis illegal at the Federal level, cannabis operators are unable to access typical capital markets including the debt markets. Rating agencies have yet to rate U.S. MSO debt and as such the audience to lend to the MSOs is limited. Since operations began, U.S. MSOs have been forced to raise capital through dilutive equity raises or expensive debt instruments. While this has improved in recent months, lack of access to traditional capital markets will weigh on these firms' profitability and cost of capital.
Coronavirus pandemic. While nearly all states that legalized cannabis deemed cannabis an "essential service" in the early days of the pandemic, this could change. If the pandemic worsens with new shutdowns cannabis firms might see a significant impact on sales in the near term if they are not allowed to stay open for business.
Illiquidity. U.S. MSOs are traded on the OTC market and as such have experienced significantly lower trading volumes than peers that trade on major exchanges. Large investors may have a difficult time establishing a position in the company or may refrain from doing so entirely. Liquidity should improve once U.S. cannabis operators are permitted to uplist.


Source: Bloomberg

Summary Valuation & Financials


Source: Bloomberg

Comparable company Analysis


Source: Bloomberg

Sell-Side Coverage


Source: Bloomberg

Conclusion
Considering its size, growth prospects, market footprint, and profitability, GTBIF is arguably the leader in the nascent U.S. cannabis industry. The company is led by a strong management team and has consistently demonstrated its ability to scale and generate profits for its shareholders. Retail investors have a rare opportunity to invest in a company with attractive growth characteristics while shares trade at value levels. By entering the stock today, before large institutions and asset managers are able to, investors are likely to be well-rewarded for purchasing shares at 12x FY22 EBITDA and riding the continued rollout of legal cannabis in the country in the years ahead.