The cannabis companies that survive 2020 will be hardened, battled tested and able to thrive for years to come.
But make no mistake, the pandemic-related market collapse is shortening the runway for debt-riddled weed firms and the number of bankruptcies will start increasing in the coming months.
That’s according to Ranjeev Dhillon, partner at McCarthy Tetrault and co-leader of their cannabis division, who handles mergers, acquisitions and bankruptcies for some Canada’s largest weed companies.
“Generally speaking, this was going to be a challenging year in the capital markets for cannabis companies anyway,” Dhillon told Mugglehead while working from his Toronto home. “And the COVID crisis adds another layer of challenges because overall it impacted all markets in a very negative way.”
Between disappointing earnings, scandals and tight regulations, cannabis stocks have tumbled 80 per cent since last April making it harder for companies to access capital markets and stay afloat.
But the COVID-19 pandemic has sent markets and financing options further into a deep freeze, which will expose weaker companies that will have no other choice but to file for protection against their creditors, Dhillon says.
Read more: Cannabis lawyer forecasts slew of bankruptcies in 2020
Cannabis bankruptcy filings starting to pile up
Last week, CannTrust (TSX: TRST) and James E. Wagner Cultivation (TSX-V: JWCA) both filed and were granted creditor protection under the Companies’ Creditors Arrangement Act.
For CannTrust, the move marks a near-end to a nine-month saga that saw the embattled cannabis company ultimately lose its licence after federal inspectors found it was growing weed illegally.
Because Dhillon represents CannTrust, he said he cannot comment specifically on the company in any form.
But CannTrust said the pandemic has put its business on the brink.
“The effects of the COVID-19 pandemic have exacerbated what were already difficult circumstances, introducing potential delays in Health Canada’s ability to review the company’s applications for reinstatement of its Niagara and Vaughan licences and making it even more challenging for CannTrust to attract new financing or a strategic partner,” the company said in a statement.
Trading in CannTrust common shares on the New York and Toronto stock exchanges has been halted as the company will soon be delisted from the TSX and NYSE.
For JWC, filing for protection has allowed it to strike a deal with Trichome Financial — which has already lent money to the smaller producer — for $4 million in interim financing. Under the agreement, Trichome will also offer to buy up the company’s assets in a stalking-horse bid, which helps establish a minimum purchase price to avoid low-balling bids if JWC does end up going bankrupt.
There are now at least seven Canadian cannabis companies that have sought creditor protection under the CCAA since December. The others include Pure Global Cannabis, Wayland Group, Invictus, True Leaf, and AgMedica.
So $JWCA basically files bankruptcy April 1st while the CEO and CFO who happen to be married. Dump over 300,000 shares since late February and just declare it on March 31st? pic.twitter.com/a8gKiCr0Sq
— Betting Bruiser (@BettingBruiser) April 1, 2020
Bankruptcies to spur on consolidation
Dhillon explains filing under the CCAA doesn’t necessarily mean a company has gone bankrupt. Instead, the federal statute is a tool that allows struggling corporations some breathing space to restructure and pay back debts while trying to stabilize their business and ultimately survive.
“There’s a lot of companies, quite frankly, that are carrying a lot of debt and they’ve spent their money,” he said. “So they’re on a very short runway I think we will see an uptick in restructurings this year.”
Dhillon says his firm is involved in all aspects of CCAA restructurings, whether that’s acting on behalf of creditors, debtors or other stakeholders looking at taking over struggling companies, or acquire their assets.
“The CCAA can be used in both ways,” he said. “It can used as a defensive to create a restructuring. It can also be used to acquire assets for what the acquirer would hope is a good price. So we act on both sides of the equation.”
However, Jerome Hass, cannabis analyst with Lightwater Partners, told Mugglehead last month that as more weed firms face debt issues and bankruptcy, their physical assets will drop in value as supply increases.
“There’s going to be a glut of them so you may not even get five cents on the dollar,” he said. “Why would anybody put debt financing on a cannabis business that doesn’t make money, and you got no assets that you can resell?”
Overall, Dhillon says it’s undeniable that the number of restructurings will increase this spring, and he points to several analyst reports that have broken down various weed companies’ runways for staying liquid.
Often on the top of the list is Aurora Cannabis (TSX: ACB), which burned through $149.5 million in the quarter ended Dec. 31. The company reported it held $156.3 million in cash left at the end of 2019.
In February, Aurora laid off 500 workers as part of a series of cost-cutting measures. The producer said the layoffs will help save up to $45 million by June 30, 2020.
Meanwhile, there are signs that U.S. cannabis companies are also facing a financial pinch.
Last week, Green Growth Brands (CSE: GGB) announced it has sent its CBD business in receivership, and this week, the company said it has defaulted on a US$5 million loan.
However, because cannabis remains illegal in the U.S. at the federal level, American weed firms are currently not able to file for bankruptcy protection.
Other Canadian companies that face liquidity issues are The Green Organic Dutchman (TSX: TGOD), Hexo (TSX: HEXO), and Tilray (NASDAQ: TLRY), according to the analyst reports Dhillon referenced.
Last month, Tilray tapped the markets offering shares and warrants in an effort to raise $90.4 million. At that time the company’s stock traded at $5.95, but the offering was priced below at $4.76.
Today, shares of Hexo dropped 26 per cent after it said it raised $40 million in financing that also included shares priced below the previous day’s closing price.
Dhillon said he was surprised that Canadian cannabis companies weren’t originally included in the COVID-19 relief loans provided by the The Business Development Bank of Canada (BDC).
“It’s interesting because we’re talking about an industry that’s being deemed as essential by the government and it’s a completely legal business in Canada,” he said.
However, the BDC announced Monday cannabis companies are being eligible for emergency funding. Although the move has been praised by some in the industry, others have criticized the fact that the loans will still have to be issued by banks, which have often refused to work with weed businesses.
Congratulations to all who pulled together to ensure we could not be ignored. Special thanks to the abundance of public servants who rallied around this cause. The future of the cannabis industry is in your debt. https://t.co/VUzprqNg7V
— Dan Sutton (@DSutton1986) April 6, 2020
Read more: Weed companies are eligible for federal relief funds, but there’s a catch
‘A lot of great opportunities’ ahead for nascent industry, lawyer says
Despite some of the grim outlooks for the legal weed industry, Dhillon remains optimistic for its long-term future.
“I think the pendulum in the cannabis industry swings both ways too strongly, both on the positive and the negative side,” he said.
Cannabis shareholders tend to be retail investors who are easily spooked, and that creates a fickle market, he added.
For Dhillon, a lack of institutional investors has meant many companies reached unrealistic valuations, while some of the stronger companies have been unfairly punished.
Dhillon said no one knows when the pandemic will end and when markets will rebound, but he has faith that the better cannabis companies will survive and will be better for it for decades to come.
In the short term, recent spikes in cannabis sales should also help some cannabis companies stay afloat.
But unlike the tech boom and bust of 2000, Dhillon said the cannabis industry will be able to survive current market upheaval because of the centuries-long demand for cannabis.
“I’ve been a big believer in the industry for a long time. I still think it’s a great industry with a lot of great opportunities,” he said. “These are very challenging times, but it’s a nascent industry and we’re sort of just at the tip of the spear here still. So there’s a lot of room for growth is my personal view.”
Top image via CannTrust Holdings