SNDL (SNDL 3.55%) has transformed its business over the past few years. After becoming a hot meme stock in early 2021, the company raised capital through multiple offerings and became hungry for acquisitions. Previously just a cannabis producer, it now owns pot shops, and the bulk of its revenue comes from liquor stores.
Although SNDL is a vastly different company, it still has problems attracting investors. Down 64% year to date, it has underperformed not just the S&P 500 (down 24%), but also the Horizons Marijuana Life Sciences ETF, which has fallen by 52%. So is the stock an underrated buy at its reduced valuation?
The case for investing in SNDL
SNDL hasn't been a great buy by any stretch, but given the transformation the cannabis company has made, it's clearly not the same company it was just a few years ago. Since its acquisition of liquor store operator Alcanna, the company's business centers more around alcohol than cannabis. SNDL reported 223.7 million Canadian dollars of revenue for the period ending June 30, and CA$148.6 million, or two-thirds of that, came from liquor retail.
Becoming less dependent on cannabis could be a positive move for SNDL as its liquor retail segment generated pre-tax profits of CA$7.2 million. In contrast, cannabis retail squeaked out a profit of just CA$217,000, and cultivation and production incurred a loss of just under CA$8 million.
Overall, the company still incurred an adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) loss of CA$25.9 million for the period, which was significantly higher than the CA$0.2 million loss incurred in the prior-year period. But this was primarily due to paper losses in its Investments segment, while the liquor and cannabis business units were positive on an adjusted EBITDA basis. And as SNDL integrates its newly acquired companies into its business, eliminates redundancies, and trims costs, the adjusted EBITDA number for its core businesses should improve.
The case for not investing in SNDL
The markets have punished risky and underperforming businesses this year, and SNDL is no exception. Investors are avoiding struggling, unprofitable companies whose principal liquidity source is raising dilutive equity capital. SNDL ticks all of those boxes.
Although it achieved impressive top-line growth of 2,344% in its most recent quarter, that was due to acquisitions as its cannabis cultivation, and production business remains underwhelming, bringing in just CA$11.6 million in revenue last quarter. And SNDL's total revenue was trending downward prior to the company's recent acquisitions:
Data by YCharts. Excludes the latest quarterly revenue for the three months ended June 30.
SNDL closed on its acquisition of pot shop operator Spiritleaf in July 2021, which corresponds to an increase in revenue that is evident in the chart above. Otherwise, this was still, by and large, a business whose revenue was declining and stagnant at best.
SNDL doesn't offer many reasons to invest in the business for growth investors. Acquiring businesses can offer a boost to the top line, but it may not necessarily make the stock a better buy in the long run, as acquisitions also mean added complexity and less efficiency by tying down capital in unprofitable ventures. Often, large businesses will spin off segments of their operations to become leaner and more efficient. While some conglomerates successfully incorporate new companies into their operations and add value for investors, SNDL has a long way to go in proving it can do that.
Most investors should pass on SNDL
Despite all the doom and gloom around SNDL's stock right now, there is a bullish case to be made around the business as it becomes less dependent on cannabis. But there's no mistaking that this is still an extremely risky stock, given that it is unprofitable and growing mainly via acquisitions. Moreover, if SNDL continues on this route, it can lead to more dilution (stock offerings may be necessary to help fund future acquisitions), potentially sending the stock even further down.
For these reasons, this isn't a stock that's suitable for most investors. Unless you have significant risk tolerance (or willingness to accept that you may incur substantial losses) and a really optimistic view about the cannabis industry's long-term future that you believe the market isn't genuinely appreciating today, you're better off investing in safer growth stocks.
