Brent Johnson, Hoban Law Group
With the COVID-19 pandemic still front and center, the long-term impact of this virus on the broader economy and the cannabis industry remains highly uncertain. That said, cannabis is now “essential” in virtually all respects. Across the country, this portends a long-term boon for the industry and those who invest in it. While cannabis investors and capital appear almost non-existent, there are “diamonds in the weeds” – investment opportunities in the cannabis space abound and, at least in my opinion, the future is bright. The key is to understand the investment landscape and the appropriate timing for deployment of capital in each case. Let’s explore a few.
Public Cannabis Stocks
Cannabis stocks took a severe beating in 2019. In 2019 alone, stock prices we’re down over 35% on average and over 75% from their prior peak in 2018. However, 2020 is showing promise, despite the virus. While the year may have gotten off to a slow start for cannabis pubcos, a number of these stocks are experiencing multi-month highs. Recent earnings reports from companies like Green Thumb Industries, GrowGeneration, and Aurora Cannabis show very promising revenue and profitability trends. If you’re looking for opportunities in the pubco cannabis space, now’s the time to take a closer look.
Debt in Cannabusiness
Capital is king right now for many starving cannabis companies. The level of stress on companies in the space has effectively placed many into survival mode. This has been the case since mid-2019 and has only been exacerbated by the virus. For the most part, equity investors are still on the sidelines and cannabis companies are either willing, or have no choice, to raise capital through debt structures. This is often at very investor-friendly terms. Debt investors are getting interest rates in the 12-18% range and kickers on top in the form of warrants. That being said, we’re starting to see these rates slowly drop and we expect that trend to continue over the next 6-9 months as capital begins to loosen up. If you’re a debt investor, now may be the time to get the most investor-friendly terms in the space with kickers to boot.
Equity in Cannabis
As I said before, equity has all but dried up in the space. The trend from equity to debt has been happening for quite some time and the virus appears to be prolonging the trend. For investors with high risk tolerance, an equity investment in a cannabis company during a crisis could be a great opportunity, as the valuations couldn’t be more attractive. However, the risk profiles and level of uncertainty can be extreme, so investor beware.
Once the dust starts to settle from the virus, investors will be better equipped to assess risk and opportunities will abound as valuations will likely still be very attractive. Companies that survive this crisis will have proven their resilience. A company that has solid fundamentals, real revenues and profits, and is well-structured may be worth the risk, but in most cases it’s probably still time to tread carefully when looking at equity investments in the cannabis space in the near term.
M&A is Down in the Cannabis Industry
Not unlike equity deals, M&A activity has taken a hard hit recently, and more dramatically in part due to the virus. M&A activity is down significantly year-over-year and certainly in the last couple months. Again, uncertainty is driving a pause in many deals and, for those deals going forward, the virus is often driving re-negotiation of terms, which takes additional time to work through.
Nonetheless, valuations are extremely attractive and opportunities to acquire solid companies with strong fundamentals do exist. A large part of the M&A activity in the cannabis space is driven by pubcos as acquirors, so as the financial health of pubcos improves so will the volume of M&A activity. Consolidation in the industry is a given. Timing is the variable. We anticipate increased M&A activity over the next 6-9 months not only in volume of deals, but size of deals as the impact of this virus lessens.
Cannabis is essential. Investment opportunities are abundant in the space and, in many instances, the timing couldn’t be better. In general, public cannabis companies are making a strong rebound, largely driven by solid fundamentals. For now, debt financing opportunities remain prevalent at very investor-friendly terms. Equity deals are still largely on pause, but as uncertainty from the virus clears, we anticipate very attractive opportunities into 2021, particularly for those companies that were strong enough to weather the storm. As for M&A, consolidation is a given. The growing strength of pubcos as acquirors and the extremely attractive valuations will drive increased deal activity into late 2020 and early 2021.
Crisis be damned, the future is bright for investing in cannabis – there are diamonds in those weeds.