Curaleaf Enters Europe & 4Q2020 Earnings Review

Curaleaf reported their Q4 2020 and FY2020 earnings after the bell yesterday. As of late/early Wednesday, there is still no MD&A filing, so all data is from their press release and conference call.

What you need to know:

Ahead of earnings, Curaleaf announced the acquisition of EMMAC for $285M, a European cannabis operator, comprised of $57M in cash and 16.8M subordinated voting shares (and the potential for $10m cash and $47m in stock earnouts).

Curaleaf Chairman Boris Jordan’s investment fund, Measure 8, is the largest cash investor as of late December, but it seems that Jordan has prioritized the best interest and reputation of Curaleaf – and the scale of the investments support this. Jordan invested $20M in into EMMAC on December 16, 2020, and the 8% interest in EMMAC is only $23M at the stated $286M acquisition price. Clearly creating value in his 94M shares of Cura MVS (~$1.5B) outweigh his modest 15% $3M return on $20m in EMMAC (we would note CURA shares increased 16% on March 9 alone).

The wholesale strategy is accelerating, and Curaleaf’s leading brand, Select, continues to gain traction among 3rd party retailers. As we’ve covered, this will likely be the leading narrative for 2021, and as described later in our report, there is a path for Curaleaf to have the largest wholesale business by revenue in the next 9 months.

Management announced a series of initiatives to support scaling the business. We also covered this recently, as it is one of the two most important factors cannabis investors must consider when analyzing public companies. The other is capital access and allocation.

Guidance for 2021 is $1.2B to $1.3B in revenues, but Q1 guidance is $252.5M, at the midpoint, and it does not include contribution from EMMAC or adult use in NJ. This implies the average revenues for Q2-Q4 will be $332.5M, and that seems like a stretch. It’s possible Curaleaf knew they couldn’t hit estimates, so they guided inline, knowing estimates would be revised upon closing EMMAC. Otherwise, they have a path to generate an average of $40M incremental revenues in Q2-Q4, versus an incremental $19M guided in Q1 (or $13.7M using their pro forma revs).

What sell-side notes will say:

The company missed Q4 revenues/net income and beat on adjusted EBITDA while guiding inline for 2021 revenues, below on adjusted EBITDA, and below for Q1 revenues.

They’ll discuss softness in demand from Q4, attributed to COVID resurgence and delayed stimulus checks, and estimates for Q1 and 2021 will be lowered to provide a cushion for guidance.

Conclusion:

The stock may trade down tomorrow as a reflex to results/guidance versus estimates, but as long term investors concerned more about 2025-30 than the June quarter, we’ll look to buy on any weakness tomorrow.

The wholesale success and discussion around investment in scalability is much more important than the print. However, we’ll want to understand how management bridges their guidance after Q1.

Some may wonder if Cura is diluting its focus on the US market, but clearly the company is focusing on scaling globally. $50M cash and ~20m shares is a low price for a low cost producer and entry into a potentially large market (basically buying a wholesale supplier to make Select a global brand). It seems Cura will leave the EMMAC management in place. Management noted that EMMAC is nearly profitable; if EMMAC does generate enormous losses in the future, Cura management would be wise to clearly delineate the profitability of the US and the investment in Europe to shareholders.

The EMMAC Acquisition

Ahead of earnings, Curaleaf announced the acquisition of EMMAC, a European cannabis operator for with the following assets (Source: MJBiz):

  • A licensed and operational grow facility in Portugal.
  • An extraction and manufacturing laboratory in Spain.
  • A manufacturing and distribution subsidiary in the U.K.
  • A pre-revenue wholesale business in Germany
  • Approximately 30 employees

The terms include a $286M payment, with 85% in stock (16.8M subordinated shares) and $50M in cash, and the potential for another $10M in cash and $47M in shares in the next year, based on performance targets. They don’t specify the price for the earnout shares; at the CA$18.32 used for the initial pricing, that implies another 3.2M shares)

EMMAC’s economics were not disclosed, but management mentioned the company has 2x the revenues that Curaleaf had in 2017, implying roughly $60M or a 4.7x revenues ratio. As of March 5, US MSOs trade at 12.9x estimated 2020 and 6.6X 2021 EV/sales, so this valuation is actually relatively attractive.

In early November, EMMAC terminated negotiations to go public via SPAC, Andina Acquisition Corp. III, likely due to valuation. Fortunately, the binding LOI with Andina allows us to get a glimpse at their investor deck from this summer.

In Q&A, management discussed their strategy of getting into Europe early to find cheap assets, contrasting with the inflated valuations in recently legalized markets like AZ. This makes sense, and is essentially a $50m cash 17M share bet that on the $1B European market expanding in the near-term.

All said, if anyone is suited to place a bet on decreasing regulations in a highly bureaucratic environment, it’s the founder of the Sputnik Group.

EARNINGS REVIEW

Revenues

Revenue grew 26.2% sequentially to $230.3M, versus consensus of $238M. Management noted they experienced weakness in revenues during the quarter, due to the resurgence of COVID and lack of unemployment checks.

We’ll learning in the coming weeks if other MSOs saw similar issues, or if this softness is a product of the lagging organic growth we speculated about last quarter.

Source: MJResearchCo

Despite the demand weakness, we expect Curaleaf to maintain their leadership in MSO revenues through the quarter.

Source: MJResearchCo

Revenue Mix

Retail revenues were 71.6% of revenues, down from 74.2% sequentially, while wholesale revenues made up 21.9% of the total.

Management gave minimal commentary on the sequential growth drivers, but we suspect the wholesale revenue growth outpacing retail was due to the addition of a ~104k sq. ft. cultivation facility added from the ATG acquisition. The company is now the largest grower in Massachussets, and there will be additional contribution in Q1 as the deal closed in early November.

Management fees were $970k, down meaningfully from the previous 9 month average of $13.1M as the company transitioned from taking fees for managing ATG, to acquiring the company.

Investors may find these numbers don’t match the transcript/conference call as Curaleaf management was reporting the pro forma split, versus the actual.

Source: MJResearchCo

Retail Revenues

Revenue per retailer grew to $1.7M, up 17% – meaning the incremental 4 dispensaries added in the quarter were accretive to the average revenue. 2 of these units were new builds in Florida (Panama and Pensacola) which averages closer to $2M per unit.

Average order value value increased from $80 to $135 over 2020, attributed to ‘best in class consumer experiences’.

Source: MJResearchCo

When compared with top MSO peers, Curaleaf may maintain a lead of retail revenues, but they lag in revenue per retail units.

Source: MJResearchCo

Wholesale Revenues

There was limited commentary on sequential growth of wholesale, but management frequently nodded towards their efforts to get their Select brand into as many retail doors as possible.

Select is currently distributed to more than 1.7k retailers across the US, up from 800 in Q1 2020, and mangement forecasted to surpass distribution to more than 2k retailers by Q2 2021.

We believe wholesale will be a recurring theme this earnings season as we were forecasting a meaningful slowdown in new dispensary openings in 2021.

Source: MJResearchCo

Cresco still holds a strong lead in wholesale revenues, but Curaleaf made a notable increase this quarter, likely with a mix of growth from Select and contribution from the acquisition of ATG.

If California tax audits of cannabis operators are initiated in the coming months, Curaleaf may surpass Cresco as the top wholesaler in US cannabis.

Gross Margins

For gross margins we calculate without management fees and biologicals, to provide a near-GAAP, apples-to-apples view of gross profits.

The gross margins in the quarter were 47.6%, down 150 basis points sequentially. Management didn’t comment on the compression (because they compared to YoY), but they mentioned the margin would see fluctuation depending on their investment cycle in cultivation and processing.

Source: MJResearchCo

It’s likely Curaleaf will stay in last for GM% in Q4, but we’ll be keeping an eye on this in 2021.

Management had extensive comments on infrastructure and personnel investments, and as we’ve noted, current financials don’t necessarily reflect which companies are most equipped to scale with the industry.

Operating Expenses & Income

Total operating expenses as a % of revenues fell 10% sequentially to 45.5%, compared with a 56.8% average in the first 9 months of 2020. This improvement is impressive, as it would have been even lower without a meaningful bump in share-based compensation.

Share-based comp was $16.1M in Q4, up from an average of $4.9M in the first 9 months of 2020. This was due to an increase in option and RSU grants in the quarter, as well as a catch-up in expense for fair value of options from the Select acquisition. Management noted they expect SBC to return to Q3 levels (approx. $5M) in Q1 of 2021.

Source: MJResearchCo

If share-based comp had been at it’s average for the first 9 months of 2020, they would have posted an incremental operating margin of 32%, and operating income would’ve grown by 4.8% seqentially to $31.8M – versus actuals of $20.4M.

Adjusted EBITDA

AEBITDA of $53.8M beat consensus of $51.5M, with margins roughly flat sequentially. This was indirectly forecasted by management on the Q3 earnings call, when they mentioned they expected to see margins improve in early 2021.

And one-time charges, their nebulous EBITDA add-back we’ve spent the last few quarters discussing, decreased significantly. The charge is nebulous as the MD&A simply describes it as “associated with acquisition and business development activities,” and on conference calls it’s described as integration costs.

One-time charges went from an average of 38% of adjusted EBITDA in the first nine months of 2020, to 5% in Q4.

Source: MJResearchCo

The company also gained on their peers in Q4.

Source: MJResearchCo

Balance Sheet

As of Dec. 31st, 2020, the company had a cash position of $73.5M, down $11M sequentially, but they’ve since been able to raise $290M in 2021 via subordinated voting shares and a tack-on to the existing credit facility.

They closed the quarter with $291.5M of outstanding debt, with an additional $300M added in mid-January.

Conclusion

We’ll update for cash-flow and capital structure details when the company provides their MD&A and interim financials.

Disclaimer: This is not investment advice or solicitation, and these reports will be provided for free, for a limited time.

As of 3/10/2021, the authors have positions in AYR Strategies, Columbia Care, Cresco Labs, Curaleaf, Green Thumb, Schwazze, and Village Farms, and make no commitment to update holdings in these positions.

MJResearchCo has no business relationship with any of the companies mentioned in the article.

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