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While the losers with larger market caps like Tilray (TLRY) and Canopy Growth Corporation (CGC) have stolen headlines, High Tide Inc. (HITI) has outperformed with a strong revenue growth of 155% CAGR over the past three years by maintaining a better business strategy. Even with its financial success, HITI is very undervalued in an industry that has been largely overvalued in the past, and I rate it as a strong buy in the medium to long term based on this evidence.
Industry Overview
Since its inception, the cannabis industry has captivated investors with promises of high demand in untapped markets, explosive growth fueled by legalization, and handsome returns to come to all who invest. It isn't hard to see why investors get so excited over pot stocks. The marijuana industry is projected to grow by 32.04% CAGR from 2021 to 2028. Much of this growth can be attributed to the steady rollback of American laws prohibited the drug. Ten years ago, no U.S. states allowed recreational use and only 17 states allowed for medicinal use. Today, recreational use and medicinal use have been legalized in 18 and 36 states respectively, and CBD use is permitted, albeit in varying capacities, across the entire country.
Source: Graph made by author using Tradingview.com
Despite all this promise, the industry has performed abysmally over the past few years. The cannabis leaders that grabbed headlines with their multi-million-dollar U.S. deals have tumbled endlessly, failing to demonstrate progress towards profitability. MJ (MJ), the world's largest ETF that tracks the global marijuana industry, is down -4.37% YTD and -47.72% over the past five years. CGC and TLRY, two of the largest firms by market cap, are each down from their all-time highs, having lost -74.38% and -92.2% of their respective peak market values.
HITI's Quiet Success
While the broader industry has continued to disappoint, HITI has quietly outperformed its peers. Over the past few years, the company grew its revenues by 155% CAGR. This rate of growth was 2-4x larger than the growth rates of many of the largest players in the industry, with CGC only producing an average 82.4% CAGR and Aurora Cannabis (ACB) yielding an average 45.9% CAGR over the same period.
Source: Table made by author using data from company filings
When compared to the same competitors, HITI was also the only company to yield a positive EBITDA in the last twelve months. TLRY, CGC and ACB have all continued to report steady negative EBITDAs over the past few years with little to no progress. Moving forward, HITI's gross margin in the last twelve months stood at a plump 36.2% while its peers could only produce a fraction of this figure - if their gross margins were even positive. Although still unprofitable, HITI produced the strongest EPS as well in its most recent report.
Differences in Strategy
The core differentiator between HITI and its floundering peers is its patient and conservative business model. While other Canadian cannabis companies have focused their efforts on the United States, HITI has been intent on expanding its retail operations in Canada. The company has designed, manufactured, and retailed its own cannabis accessories, offering its products across many of its own websites and in its brick-and-mortar Canadian stores. As reported in its Q3 2021 earnings call, national sales increased by 21.5% in the third quarter largely thanks to its new "Cabana Club" loyalty plan, designed to offer discount prices for members. At the end of the same quarter, HITI had 93 Canadian locations. As of a Nov 09 press release, HITI had 103 retail locations in Ontario, Alberta, Manitoba and Saskatchewan, well on its way to hitting its goal of 110 locations by the end of the year.
This strategy has succeeded where others are failing because, in my opinion, other companies are prematurely turning to the American market. Yes, there's opportunity in the freshly legalized American states, but many cannabis companies are making moves in anticipation of legalization at the federal level in the United States - a dream that continues to evade their reach. For example, CGC recently paid $297.5 million upfront for the right to acquire the North American edibles market leader Wana, contingent on federal permissibility of THC in the United States. If the United States doesn't legalize at the federal level in the next few years, CGC is taking a huge hit at a time when it is already struggling to turn earnings around, all just to make another hopeful bet on the possibility, not the inevitability, of legalization within the next few years. To make matters worse, CGC has no current voting rights in Wana and will have to pay additional deferred payments once 2.5 and 5 years pass with no legalization, all while HITI has risen to become the largest Canadian retailer in Alberta and is quickly expanding within three other provinces.
Why U.S. Legalization Isn't Around the Corner
Cannabis enthusiasts have been hopeful as the Democrats have come to control both chambers of Congress as well as the Presidency, but U.S. federal legalization is still a ways away. Firstly, since marijuana has been legalized in so many states already, federal legalization is not a priority of politicians even if most Americans now favor the prospect. The first bill only recently cleared committee on September 30th when the Democrat-led Marijuana Opportunity Reinvestment and Expungement Act was passed by the House Judiciary Committee. Recently, rumors of a Republican-led legalization bill have also fueled hopes of legislative progress. These bills still have long roads ahead, and members of Congress will still likely vote along party lines to slash down the opposite party's bill based on differences in proposed taxation and implantation.
Even if a bill managed to pass all the way through Congress, CGC shareholders shouldn't hold their breath. President Joe Biden still believes that marijuana is a gateway drug and is intent only on the decriminalization of the drug. Earlier this year, the Biden Administration fired "dozens of young White House staffers" when they found out about their past usage of marijuana. It's hard to imagine this same administration will happily sign on a bill that would fully legalize marijuana. CGC, TLRY and the like won't benefit off their deals until this administration either changes its tune or switches out in 2025. While they focus on this lofty prospect, HITI will continue to expand its retail operations in Canada, devouring concrete portions of the cannabis market share.
Undervalued in an Overvalued Market
Source: Data gathered from company filings using Capital IQ.
Even with its strong financial performance, HITI is still undervalued relative to its peers. I analyzed 12 other cannabis companies in order to get a snapshot of the industry for comparison multiples. Of these companies, the average Total Enterprise Value to Total Revenues LTM was 5.9x. By multiplying this multiple by HITI's Total Revenues LTM, we are left with an implied Enterprise Value of USD $575.84 million. After removing debt, adding cash, and dividing by shares outstanding, HITI has an implied share price of USD $12.8, a 92.5% increase from its last closing price of $6.65. For comparison, the same methodology produces implied share prices of $5.1 and $6.5 for TLRY and CGC, respectively. At last closing, TLRY stood at $11.52 and CGC closed at $13.12, implying heavy overvaluation relative to their industry. HITI's price point is even more favorable when you use Revenue forecasts for the next twelve months. Based on these forecasts and industry multiples, HITI has an implied share price of $16.67, TLRY of $4.57, and CGC of $5.15.
Of note, HITI has a relatively unfavorable price-to-book ratio of 2.3x. However, even this is justifiable given HITI's business model. The company's business model relies heavily on intangible assets which are not captured by book value measures. It owns multiple retail sites, including AskVape.com, ClubLifted.com, FindVapeShop.com and many others. These digital platforms account for much of HITI's value, and investors should not jump to conclusions based off the PB ratio alone. Given this, the ratio just highlights yet another metric in which HITI is overlooked and reasonably valuated.
Technical Analysis
Source: Graph made by author using Tradingview.com
HITI may be on a downward trend in the short term, but it could be ready for a breakout in the medium to long term. Currently, HITI has fallen from its high of $13.52 in February to roughly half that value. The stock price has been on a steady downward trend, but this trend appears to be tightening into a falling wedge pattern as shown above. This suggests that HITI will continue the downward trend in the short term as its upper and lower bounds continue to tighten. This trend can be broken with a breakout above HITI's upper resistance levels, reversing the downward trend. Its current RSI sits at 54.48, putting it in neutral territory.
Risks
HITI's primary risk is the United States legalizing marijuana at the federal level sooner rather than later. If the Biden administration does decide to enact this change, CGC and TLRY will be better positioned to begin large-scale operations in the country. This scenario wouldn't necessarily be the death of HITI - HITI would still be able to increase its Canadian market share and would still reach profitability - but its ceiling would be more limited as its competitors establish themselves in the U.S. before HITI would be able to make its own moves. However, this risk is still hedged by the company's strong online presence. HITI would only need to expand its distribution networks in order to begin capturing sales in freshly legal states using its online platform.
One of the industry-specific risks is that companies will have difficulty adjusting to compliance regulations. Regulations already vary from country to country and state to state. As cannabis companies expand, they will have to keep a keen eye on their operations to ensure these regulations are met or face substantial fines or even closures. Additionally, cannabis companies must be able to reduce prices and remain competitive against the black market for cannabis. Even as marijuana is legalized, the black market will remain a very lucrative industry that will be able to maintain much lower prices than legal firms. Cannabis companies must find ways to draw a sufficient market share away from the illicit dealers in order to earn their forecasted revenues.
Conclusion
HITI is a realistic option for those who want to profit off the potential of the cannabis industry as its leaders continue to disappoint. The company's 155% CAGR over the last three years is a strong indication of its successful business strategy. While unprofitable now, HITI's positive EBITDA and thick Gross Margin signal that profitability is on the horizon. These strong financials have been widely overlooked as HITI remains greatly undervalued within an industry that it is outperforming. If U.S. federal legalization doesn't happen in the next few years, HITI will have grown into a strong cannabis player who can seize the American opportunity at the right time rather than prematurely throwing hundreds of millions at a gamble that is not in sight.
I rate HITI as a strong buy in the medium to long term. An investment in HITI is an investment in a successful company that has outperformed an industry with explosive potential. HITI will continue to take over the Canadian retail market and continue its impressive annual growth in revenues. When American federal legalization does come, HITI will be well-positioned to enter this fresh market and further expand its winning strategy.