Why would Constellation allow this collateral damage collapse in share price ?
February 26, 2023 at 6:20 pm
You’re reading a copy of this week’s edition of the New Cannabis Ventures weekly newsletter, which we have been publishing since October 2015. The newsletter includes unique insight to help our readers stay ahead of the curve as well as links to the week’s most important news.
Friends,
Canopy Growth, one of the most popular cannabis companies with investors, is down 23.1% in February. This is the worst performance among the 25 stocks in the New Cannabis Ventures Global Cannabis Stock Index. With the pullback, the stock is up 0.9% year-to-date, which is worse than the 3.8% index return.
Most of the February decline took place when the company reported its fiscal Q3 on February 9th, with the stock falling 17.9%. In fact, the stock closed Friday at $2.33, 3.6% higher than where it closed then. The stock continues to trade higher than its multi-year closing low of $2.09 set 12/27. It fell 7.2% this week, which was more than the index, but we were surprised it didn’t fall more. The company reported on Tuesday morning a convertible note financing that we find ominous. Many investors seemed to miss the most important aspect, the toxicity of the structure. The conversion price is 92.5% of the three-day volume-weighted average price of the Common Shares ending on the trading day prior to conversion, which is much worse than a fixed price.
The press release didn’t discuss an important aspect, but an SEC filing revealed that the company sold $100 million of 5-year debt for $95 million and could issue 98.93 million shares. This works out to a price of $1.01 for the buyer, Verition Canada Master Fund! If Canopy Growth ends up issuing shares to redeem the convertible, it could be effectively selling stock at $0.96.
We aren’t entirely surprised by the deterioration of Canopy Growth’s debt financing. The debt has been rising, and the cash has been falling. The company continues to burn a lot of cash in its operations. Canopy Growth’s move from a fixed-price convertible to a variable one could weigh on the stock. I shared a one-year target of $1.36 at Seeking Alpha in late January. The target was based on an enterprise value to projected FY25 (March 2025) sales multiple of 2. The projected 2025 sales dropped from C$619 million to C$509 million, an 18% decline. The expected adjusted EBITDA worsened as well, falling from -C$84 million to -C$115 million. The target at 2X EV/projected revenue would now be C$0.59.
Investors should not have been excited by the low interest-rate on the debt at 5% and should have been concerned about the toxicity of the structure. We see several Canadian LPs that look a lot better financially and operationally than Canopy Growth that are trading cheaper, and they are down a lot in 2023. Investors should choose these LPs over Canopy Growth in our view.