Cannabis Chart Of The Week: How Much Are U.S. MSOs Undervalued Compared To Other Industries?

The chart shows Enterprise Value to 2024 consensus EBITDA multiples on the vertical axis against 2023-2025 Revenue CAGR on the horizontal axis for thirteen different industries.

We last explored this topic in the 6/24/22 Viridian Capital Chart of the Week and wanted to explore the impact of the rescheduling expectations on the industry’s relative positioning.

We used data from 295 companies organized into 13 different industry categories. The assignment of companies into industry groupings follows the work of Aswath Damodaran, a noted finance professor at NYU. Valuation multiples and revenue growth rates were calculated by aggregating all companies in the industry group before calculating the respective ratios. 

The top 10 MSOs by market cap collectively have an expected 6.3% compounded revenue growth rate for the next two years, down significantly from the nearly 30% value we measured two years ago. Analysts are arguably being too conservative in their estimates, especially given the potential for Florida, Pennsylvania, and Virginia to go adult rec. Some hopeful signs are also appearing, such as California and New York beginning to tackle their illicit market issues. Still, wholesale price compression is an ongoing reality, and the number of large states that have not yet passed recreational cannabis is shrinking. 

The MSO group has an 8.24x EV/ 2024 consensus EBITDA multiple (compared to 4.8x on 6/24/22), significantly lower than any other industry group despite its 2024 EBITDA margin of 26.2%, the fourth-highest behind Tobacco (48.7%), Pharmaceuticals (36.8%), and Alcoholic Beverages (28.1%). 

We note, however, that cannabis EBITDA is not strictly comparable to the other sectors due to the impact of 280e. Deflating EBITDA by 5/8 to account for relative tax treatments (admittedly a very rough approximation) would produce a 13.2x multiple.  Much of the observed lower multiple, therefore, derives from the adverse tax treatment.The blue line represents the regression line through the points, and cannabis has a predicted multiple of 13.7x. The regression equation suggests that adding one percentage point of CAGR should result in an approximately .5x increase in valuation multiple.

Cannabis is the only sector on the chart with several potential catalysts that could materially affect value.

• Legalization Initiatives: Although we believe full legalization is still years away, rescheduling with the removal of 280e is likely to be announced prior to the election. We are less optimistic about the SAFER Act or its derivatives.

• Consolidation: We believe significant industry consolidation is still to come in cannabis. Even the largest MSOs are quite small by American industry standards. The average EV of the largest 10 MSOs is only $1.6B compared to $22B, $55B, and $127B for the Alcohol, Pharmaceuticals, and Tobacco companies represented on the chart. A few significant M&A transactions or strategic investments from outside the industry could propel valuations upward.

The timing of the likely catalysts is impossible to forecast, and investors need to have a long time horizon to reap the benefits of cannabis margin expansion.

The Viridian Capital Chart of the Week highlights key investment, valuation and M&A trends taken from the Viridian Cannabis Deal Tracker.

The Viridian Cannabis Deal Tracker provides the market intelligence that cannabis companies, investors, and acquirers utilize to make informed decisions regarding capital allocation and M&A strategy. The Deal Tracker is a proprietary information service that monitors capital raise and M&A activity in the legal cannabis, CBD, and psychedelics industries. Each week the Tracker aggregates and analyzes all closed deals and segments each according to key metrics:

• Deals by Industry Sector (To track the flow of capital and M&A Deals by one of 12 Sectors - from Cultivation to Brands to Software)

• Deal Structure (Equity/Debt for Capital Raises, Cash/Stock/Earnout for M&A) Status of the company announcing the transaction (Public vs. Private)

• Principals to the Transaction (Issuer/Investor/Lender/Acquirer) Key deal terms (Pricing and Valuation)

• Key Deal Terms (Deal Size, Valuation, Pricing, Warrants, Cost of Capital)

• Deals by Location of Issuer/Buyer/Seller (To Track the Flow of Capital and M&A Deals by State and Country)

• Credit Ratings (Leverage and Liquidity Ratios)

Since its inception in 2015, the Viridian Cannabis Deal Tracker has tracked and analyzed more than 2,500 capital raises and 1,000 M&A transactions totaling over $50 billion in aggregate value.

The preceding article is from one of our external contributors. It does not represent the opinion of Benzinga and has not been edited.