Canopy Acquires Hiku Brands – A Massive Gamble On The Smoker Lifestyle – Canopy Growth Corporation (NYSE:CGC)

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Introduction/Thesis

The recent acquisition of Hiku Brands (OTCPK:DJACF) by Canopy Growth Corp (CGC) gives Canopy additional exposure to the Canadian recreational cannabis market and helps to better position them for the initial sale of cannabis for personal use in October. While the deal gives Canopy additional distribution channels, it comes at massive costs that will require many pieces falling into place to recover.

Acquisition Information

On July 10, 2018, a press release came out that announced the acquisition of Hiku Brands by Canopy Growth Corp. Canopy has acquired all of the issued and outstanding shares of Hiku at a price of $1.91CAD per share, which translates to 0.046 of a Canopy share. The overall cost of the deal (using shares outstanding from the most recent 10-Q, not adjusting for future warrants) was $214mmCAD. This represents a 33% premium from Hiku’s closing price on July 10, 2018, prior to the announcement of the acquisition, of $1.45CAD.

Who Is Hiku Brands?

HikuSource: Hiku Brands

Hiku Brands is based out of Southern B.C. and operates and oversees the development and expansion of 4 cannabis related brands, Tokyo Smoke, DOJA (an ACMPR Licensed Producer), Van der Pop (a “female-focused cannabis brand“), and Maïtre (Lifestyle Brand). Tokyo Smoke is a cannabis lifestyle coffee chain that also sells cannabis accessories. Tokyo Smoke recently won “Brand of the Year” at the Canadian Cannabis Awards and currently operates 6 coffee shops throughout Ontario and Alberta and have plans to expand into the cannabis retail market in Manitoba. Hiku Brands also took a majority stake in their merger with WeedMD in late April.

Good Purchase or Bad Deal

Canopy’s purchase of Hiku Brands may not be as large and glamorous to investors as the recent Aurora (OTCQX:ACBFF) and MedReleaf (OTCPK:MEDFF) deal, it does show significant insight into Canopy Management’s plans and ideas for the future of recreational cannabis.

At a purchase price of $214mmCAD, Canopy would be able to cover the entire purchase in cash ($322mmCAD as of most recent filings). While it’s nice to see Canopy putting their cash to use, they did spend over $200mmCAD on $41mmCAD in assets. A simple breakdown of Hiku’s assets shows an overwhelming amount of Goodwill at 81% of their total assets.

Excel Balance sheet Hiku

At the most basic level, Canopy spent $5.25CAD per dollar of Hiku’s assets. Even worse is looking at the fact that Canopy spent $23.44CAD per dollar of Hiku’s revenue-generating assets (I was nice and even counted their intangibles as revenue-generating). The face value appearance of this deal gives off a bad taste initially… Spending over $200mmCAD on $40mmCAD of mostly cash/equiv assets and $179mm of someone else’s Goodwill is a tough pill to swallow for Canopy investors (even taking into the typical cannabis industry transaction premiums). Though while the deal may not be an instant boost to Canopy’s production operations, it does help them secure much stronger footing in the retail markets. Tokyo Smoke is already an established brand in the eyes of a portion of Canadians who associate with a higher end Marijuana Lifestyle and has 6 open locations with international expansion plans in place and approval to open 10 stores in Manitoba that will be licensed for the sale of recreational cannabis in October. This will give Canopy direct access to a loyal client base at the open of recreational sales. While the brand loyalty Hiku will be able to offer through Tokyo Smoke, Van der Pop, and Maïtre, will undeniably be of value to Canopy, there are several other aspects of the deal that could prove to be troubling in Canopy recapturing the full cost of their purchase.

The largest is the (in my eyes) gamble that Canopy is taking lifestyle brands on becoming the strongest way to sell cannabis to consumers. Tokyo Smoke differs from traditional dispensaries in that they aim to create an experience out of buying cannabis. Source: Hiku BrandsFrom their high-end appearances to their efforts to keep customers in the store with a coffee lounge, Tokyo Smoke wants to go further than just a glass counter with jars of weed and break away from the traditional dispensary model we’ve seen in Colorado, Washington, and other legal/medical states. Personally, I see this strategy as very hit or miss. It’s not because the business model is so different from everything else we’ve seen be successful, but because it relies so heavily on stigmas of cannabis consumption disappearing nearly immediately. The vast majority of people who consume cannabis regularly are not enticed by the high-end lifestyle angle, they tend to fall along more “traditional stoner” styles or want to avoid associating themselves with Marijuana so openly. Whether it be professional, social, or personal reasons, most people don’t want to walk around letting everyone know they smoke weed.

Impact For Canopy Investors

Realistically, the current marijuana stigmas are likely to dissipate over time as more and more countries move towards legalization efforts. More realistically, the stigmas will dissipate slowly, and, most likely, not quick enough for Canopy to realize much value out of the Tokyo Smoke, Van der Pop, and Maïtre brands. There’s a reason when you think about someone wearing a t-shirt with a pot brand on it, it’s probably not the same looking person you picture working at an Investment Bank. The acceptance of cannabis in the overall public will likely begin with individuals trying cannabis with close friends behind closed doors rather than everyone suddenly looking at a dispensary as the next chic lounge.

The acquisition of Hiku brands does give Canopy Growth great exposure to the retail market and numerous additional storefronts to push their products too, but the overall and long-term success of the acquisition is too reliant on massive changes in the public’s perception of Marijuana in too short of a timeframe. For Canopy investors and those looking at Canopy as a potential investment, I would advise you to think about the business model of Hiku Brands and if you can see it becoming a staple in the industry. The financials of this deal are not great on paper and I would not advise any investors to open a position on the basis that the Hiku acquisition will be a major driver for Canopy in the future.

*Authors Note: This Transaction News Was First Broken To Deltabot Through The Cannalysts, a free and active community providing unbiased and evidence-driven DD on the Cannabis industry.*

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.



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