Reports from unnamed sources don't always pan out. So when Bloomberg and CNBC ran stories Wednesday that Canadian cannabis company Canopy Growth (NYSE:CGC) was in talks to acquire U.S.-based operator Acreage Holdings (OTC:ACRG.F), there was still some uncertainty about whether a deal would really happen.
That uncertainty was removed Thursday morning when Canopy Growth confirmed its plans to acquire Acreage for $3.4 billion. Canopy's co-founder and CEO Bruce Linton acknowledged that its acquisition of the U.S. company was a "complex transaction."
He's right. Here are five things you need to know about Canopy's complicated deal.
1. It's not an acquisition -- yet
At this point, Canopy Growth isn't really acquiring Acreage Holdings. Why? As long as marijuana remains illegal at the federal level in the U.S., Canopy can't do so and still keep its stock listed on the New York Stock Exchange (NYSE) and Toronto Stock Exchange (TSX).
Instead, Canopy Growth is buying the right to buy Acreage when marijuana production and sale become federally legal in the U.S. If such legalization never becomes a reality, Canopy won't actually acquire Acreage Holdings.
2. Canopy Growth won't use too much of its cash
Thanks to the $4 billion investment by Constellation Brands (NYSE:STZ) last year, Canopy Growth sits on a boatload of cash. But the company won't have to use too much of its cash stockpile on the Acreage Holdings transaction.
Canopy will pay $300 million up front for the right to acquire Acreage later. Assuming the U.S. revises its federal marijuana laws at some point in the future, Canopy would then fund the acquisition with stock. Acreage shareholders would receive 0.5818 common shares of Canopy Growth for each Acreage share they owned at the time of the transaction's closing.
The total price tag of the acquisition is valued at $3.4 billion, which reflects a 41.7% premium over the 30-day volume-weighted average price of Acreage Holdings shares.
3. Several hurdles remain to be jumped
It's not a done deal yet. Shareholders of both companies must first approve the transaction. And while only a simple majority of Canopy Growth shareholders have to vote in favor of the planned acquisition, at least two-thirds of Acreage shareholders must give a thumbs-up to the deal.
In addition, there are the usual financial hurdles that must be cleared. Most importantly, regulators in Canada and the U.S. will have to sign off on the deal.
4. It impacts Constellation's path to controlling Canopy Growth
This transaction doesn't just affect Canopy Growth and Acreage Holdings. It will impact Constellation Brands, too. As things stand right now, Constellation owns warrants that, if exercised, would give it a majority ownership interest in Canopy Growth. These warrants were originally scheduled to expire over a three-year period.
With Canopy's planned acquisition of Acreage, though, Constellation and Canopy have revised their initial agreement. Constellation's warrants in Canopy will now extend through five to eight years. And if Canopy exercises its right to acquire Acreage and Constellation exercises all of its Canopy warrants, Constellation's stake in Canopy isn't expected to be greater than 50%. However, Constellation will still retain its seats on Canopy's board of directors and will be able to continue to exert a significant influence on the marijuana producer's operations and strategy.
5. Why Canopy Growth is doing the deal now
Why didn't Canopy Growth just wait until it could really acquire Acreage? There are probably two key reasons.
First, Canopy wants to be able to move at lightning speed if and when the day comes that marijuana is legal at the federal level in the U.S. The structure of its deal with Acreage makes that quick action possible.
Second, Canopy's executives feel that U.S. legalization is right around the corner. In Canopy's Q3 conference call in February, Bruce Linton expressed his view that U.S. laws could change relatively soon.
The prospects of U.S. marijuana legalization certainly appear to be better than ever. The STATES (Strengthening the Tenth Amendment Through Entrusting States) Act, which would federally recognize legalization of cannabis in states that have done so, has been introduced into the U.S. House of Representatives and the Senate. With Democrats controlling the House, passage of the legislation in the chamber seems likely. That could create tremendous pressure on the GOP to allow a vote to be held on the STATES Act in the Senate.
There's no guarantee that this will happen, of course. But Canopy Growth wouldn't be forking over $300 million up front for the rights to acquire Acreage Holdings if the likelihood for future changes to U.S. federal marijuana laws wasn't pretty high.