Consolidation of marijuana stocks in the Canadian industry isn’t a thing of the future; it appears to be happening now.
Marijuana stocks Aurora and MedReleaf announced a possible acquisition which would rearrange top players in the industry.
The hottest potential consolidation story at the moment is that of Aurora Cannabis (NASDAQOTH:ACBFF) and MedReleaf (NASDAQOTH:MEDFF). As of last week, the two marijuana stocks were in the midst of discussions over a potential deal, where Aurora would acquire MedReleaf. However, yesterday the deal progressed with an offer, as reported in a Canadian press release:
“Aurora Cannabis Inc.’s $3.2 billion all-stock offer to take over rival licensed marijuana producer MedReleaf will create what the target company’s CEO described as the ‘undisputed world leader in cannabis’ and the largest-ever deal in Canada’s burgeoning cannabis industry.”
Among the top five of Canada’s largest marijuana growers per market cap, Aurora ranks second. MedReleaf has vacillated between the third and fourth positions. Therefore, should the two finalize the deal and combine forces, Aurora would easily advance past Canopy Growth Corp. (NASDAQOTH:TWMJF) to the top position: biggest cannabis stock currently on the market.
That said, an acquisition of this magnitude would place Canopy in a far more pressured position to make an acquisition of similar strategic value. Perhaps one of the more obvious choices would be to approach Aphria (NASDAQOTH:APHQF), whose market cap is in roughly the same ballpark as MedReleaf, with a deal. One Motley Fool analyst believes this is not only a possibility, but one that would make sense as an acquisition for Canopy Growth.
Among marijuana stocks in Canada, there is a lot for investors to like about Aphria.
For starters, when Aphria reported its Q3 results last month, the company was pleased to see its revenue had reached an all-time high. Aphria also achieved something that none of the other large Canadian growers have been able to claim: a positive adjusted EBITDA for ten consecutive quarters. Another Motley Fool analyst, Sean Williams, considers Aphria to be “chronically undervalued” in comparison with its peers.
One factor weighing in on Aphria’s value as a cannabis company is its substantial production capacity, brought about largely by strategic deal-making. In February, Aphria finalized its acquisition of Broken Coast Cannabis, adding this capacity to its inventory. This deal was followed up by Aphria’s completion of the Nuuvera acquisition in March.
With the acquisition of Nuuvera, Aphria is now well positioned in international medical marijuana markets, with a global presence in 11 countries, Canada included. Among these markets, the German market is currently the largest and most vital player, in the throes of rapid expansion. Through acquiring Nuuvera, Aphria also acquired, by extension, a supply agreement with a pharmaceutical distributor that is the second largest to serve the German market.
Though Canopy Growth is currently the top marijuana stock in the industry, there is a compelling case to be made for striking a deal with a company like Aphria.
After all, Canopy Growth isn’t in a desperate position; there is no actual need of another acquisition, let alone one of this magnitude. Canopy already lays claim to more than enough capacity to carry the company’s sales through strong periods of growth, both domestically and internationally in MMJ markets, in addition to Canada’s pending recreational market. That said, several reasons exist to make a case for Canopy pursuing acquisition of a candidate such as Aphria.
One point in favor of Canopy buying out Aphria would be the lead Canopy could gain over Aurora in the hot German MMJ market. Not only that, acquiring Aphria (and with it, Nuuvera) would automatically expand and strengthen Canopy’s international presence.
Then, there’s the issue of a U.S. presence, which Canopy has steered clear of due to the federal government’s contentious classification of marijuana as a wholly illegal substance. Aphria has maintained a U.S. presence though its investment in Liberty Health Sciences, which could come in handy down the road. With the recent news of an agreement between President Trump and U.S. Senator Cory Gardner (R-Colo), in which the president purportedly committed his support to legislation that would prevent interference from the federal government in marijuana laws passed at the state level, Aphria’s ties may prove timely.
Aphria’s more important asset, however, would be the greater economies of scale and capacity boost it would provide Canopy. While there has been valid concern over a supply glut in Canada after the legal recreational market opens, there appear to be plentiful enough opportunities in international markets to make use of excess supply and growers’ additional capacity in the years to come. Bottom line, capacity is golden as long as demand exceeds supply.
Investors need to keep in mind that marijuana falls under the category of agricultural commodities. Therefore, long term success is partially contingent upon businesses lowering production and distribution costs. Larger businesses will have greater likelihoods of reducing both costs, which means Aurora acquiring MedReleaf (and combining entities) would eventually put the company at an advantage over Canopy in its ability to reduce the costs of production and distribution. One way to prevent this disadvantage would be for Canopy to buy out Aphria.
What happens from here between marijuana stocks Aurora and MedReleaf will affect the probability of Canopy Growth approaching Aphria with a deal.
Currently, the odds seem 50-50, at most, that Canopy would try to strike a deal with Aphria. Those odds, however, would likely go up if Aurora finalizes its deal with MedReleaf. One potential difference is that MedReleaf appears interested in selling, while Aphria has never indicated acquisition as a possibility. We’ll see what happens to those dynamics if an attractive offer is set on the table. In the long run, consolidation seems to be the most economical direction for the marijuana industry.
(For more information on Aurora and its potential MedReleaf acquisition, read A Good Quarter for Aurora is Good News for Canadian Marijuana Stocks)