It has not been a great year for SNDL (SNDL +3.26%), formerly known as Sundial Growers. At least, it hasn't been a great year for the stock, which has fallen 57.5% on the year and a stunning 98% from its all-time highs.
A tough macroeconomic environment and pricing erosion in the oversupplied Canadian cannabis market have been disastrous not only for SNDL, but also for all Canadian cannabis stocks. And disappointment on legalization in the U.S. has also caused similar declines in the U.S. cannabis space.
And yet, SNDL could actually be the one company poised to take advantage of the widespread destruction across the industry, since it's flush with cash after raising money from stock sales during the meme stock craze of 2020 and 2021. In the words of CEO Zach George, "In a sense, things in the Canadian cannabis industry are so bad that they're good."
NASDAQ: SNDL
Key Data Points
The transformation is more than just a name change
During the meme stock craze, SNDL was able to raise about $1 billion thanks to stock sales, wiping out its debt and putting the company in a strong financial position. It was a stark change from the company's former status as a near-bankrupt microcap.
The company then did some relatively smart things with the cash, with an eye toward consolidating the oversupplied cannabis market in both Canada and the U.S. in a relatively low-risk way.
First, it acquired Alcanna, a company with a strong alcohol retailing footprint in the Province of Alberta, and a majority stake in Nova Cannabis (NVAC.F +0.00%), which owned the Value Buds retail cannabis brand. That acquisition broadened SNDL's retail network, giving it Canada's largest cannabis retail footprint, and the alcohol segment actually generates positive, recurring cash flow. This is important because the cannabis industry in Canada is vastly oversupplied, which has led to price wars and negative profitability and cash flow for most players. So to be able to have recurring cash flow is a nice advantage for SNDL.
The Alcanna acquisition just closed on March 31, 2022. In the most recent quarter, the liquor segment brought in $10.7 million in net profits to SNDL, and $13.7 million in adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA).
SNDL formed SunStream, a joint venture with SAF Group that invests in debt of U.S. cannabis companies. By forming the joint venture, SNDL was able to get around regulations preventing listed Canadian companies from investing in plant-touching companies in the U.S., where cannabis is still illegal.
Through SunStream, SNDL gets a senior position in the capital structure with very attractive yields. For instance, it just increased its loan to SkyMint, a Michigan-based cannabis company, with a yield between 12.5% and 16.5%, based on SKyMint's leverage metrics.
SNDL also makes direct investments in the debt and equity of other Canadian companies. All told, the fair market value of its SunStream investments was $498 million, and its Canadian investments totaled $155 million as of the end of the third quarter.
Debt investments are a smart strategy for an operator like SNDL. If the investee does well, SNDL receives very high yields. If the investee goes bankrupt, SNDL can acquire cannabis assets on the cheap out of bankruptcy.
Recent acquisitions
Some of the pessimism regarding SNDL could be due to its continuation of acquisitions in the Canadian cannabis space. Recently, it acquired Zenabis out of bankruptcy for an undisclosed amount, and it's working to close the acquisition of the Valens Company (VLNS +0.00%) for $138 million in stock.
It appears that the acquisition of Zenabis could be a great deal, depending on what price was paid. SNDL will be acquiring an E.U.certified grow facility, which will allow SNDL to boost its international exports to Europe and Israel. Furthermore, SNDL is acquiring 22 million grams of cannabis inventory, as well as a 255,000-square-foot industrial facility in Nova Scotia that it will put up for sale. Since Zenabis was in bankruptcy, SNDL likely got a big discount on these assets.
The Valens acquisition could be more questionable, especially since SNDL is paying for it with stock, not cash. As of its last quarter, Valens was still burning cash and had negative EBITDA, although it had improved its losses somewhat. Still, SNDL sees a strategic fit, as Valens excels in ingestibles, beverages, and other products besides dried flower, with access to low-cost cannabis sourcing. That complements Sundial's current strength, which is premium small-batch flower.
A cheap stock
Clearly, SNDL crashed in 2022, but its valuation looks attractive at this point. At around $2.60 per share, the company actually trades at a discount to just its cash and the market value of its Canadian and SunStream investments, which amount to $2.87 per share. Total net assets currently amount to $4.77, meaning the stock trades at just 0.55 times book value.
That means the market is assigning a negative value to its cannabis and liquor operations, which seems way too pessimistic. Yes, these assets generated a big loss last quarter, but the bulk of those losses came from noncash impairments and market repricing of certain warrants held by the company. On an adjusted EBITDA basis, the liquor segment was profitable, and the cannabis retail and wholesale operations improved to slightly positive combined EBITDA as well.
Usually, a low price-to-book ratio is appropriate for highly indebted companies or companies that will earn subpar returns on those assets. SNDL currently has CA$278 million ($206 million) in cash and no debt. While the current returns on Canadian cannabis assets are low, SNDL is looking to consolidate the industry, both through acquisitions and vulture investments in high-yield debt.
If the strategy works out, and it becomes one of a few players remaining in the country, it would theoretically be able to rationalize prices due to less competition, and the returns from the company's scale could lead to higher profits down the road. If that happens in 2023, the stock could soar. Yet until SNDL proves that out, it's likely to remain cheap in the meantime.
Fortunately for investors, CEO Zach George, who has been very candid about the troubles of the Canadian cannabis market, said on the recent third-quarter conference call with analysts that due to the increased pace of bankruptcies in Canadian cannabis, "for the first time, I see contrary indicators suggesting that the Canadian industry is nearing a trough, warranting a more bullish stance." We'll see if those bullish indicators bear fruit in the new year.
