And so it begins:
At the request of Investment Industry Regulatory Organization of Canada, Aurora Cannabis Inc. (ACB.T) has disclosed a proposal to acquire all of the issued and outstanding common shares of CanniMed Therapeutics Inc. (CMED.C).
The proposal was delivered to the board of directors of CanniMed on Nov. 13, 2017, and Aurora is seeking to pursue a mutually agreed upon combination with CanniMed. CanniMed has not yet engaged in active discussions with Aurora, however, Aurora welcomes the opportunity to do so, such that CanniMed’s shareholders can benefit from the significant inherent value in the proposal. Aurora has requested that CanniMed’s board respond to the proposal prior to 5 p.m. PT on Friday, Nov. 17, 2017, failing which, Aurora intends to commence a formal takeover bid for CanniMed.
But this is where it gets tricky:
- The all-share proposal, valued at $24 per CanniMed share based on the closing share price of Aurora on Nov. 14, 2017, reflects a 56.9-per-cent premium over the most recent closing price of CanniMed shares on Nov. 14, 2017;
- Irrevocable lock-up agreements with approximately 38 per cent of CanniMed shareholders to vote in favour of Aurora’s proposal or tender to Aurora’s bid;
- The combination would create a global leader in the cannabis industry with a pro forma market capitalization exceeding $3.0-billion;
- Combined entity would serve approximately 40,000 active registered patients;
- Aurora-CanniMed combined would benefit from enhanced capacity for future growth with greater access to capital and liquidity, with trading volumes amongst the highest in the cannabis industry.
That highlighted bit is a bone of contention. Aurora’s stock has been on a frenzied charge the last few weeks, so while, yes, the offer of ACB stock in return for CMED stock does present a 56.9% premium at the time the offer was made public, if you took an average price over the last 30 days of ACB stock, the value drops considerably.
The company advises shareholders to take no action until such time as the board has had the opportunity to fully consider and make a recommendation regarding the unsolicited offer.
At this time, the board has not received a formal written offer from Aurora. CanniMed notes that the unsolicited offer is speculative as the Aurora press release cautions that Aurora may determine not to proceed with its proposal in the circumstances described in the Aurora press release.
Further, CanniMed cautions that the share consideration (or equivalent share value) offered by Aurora in its press release is inflated and CanniMed believes over values Aurora in that it is based on the closing price of the Aurora shares on the Toronto Stock Exchange on Nov. 14, 2017, which reflects an increase of 124.9 per cent over Aurora’s closing price on the TSX over the preceding 12 trading days (Aurora’s closing share price on Oct. 27, 2017, before the recent run-up, was $2.85, which implies a value of $12.90 per CanniMed share at the exchange ratio. CanniMed’s closing price on Oct. 27, 2017, was $11.53).
There’s a reason financing prices and stock-based acquisition offers are generally set at an average share price taken over the preceding 14-30 days, and that’s because a sudden spike in value can be temporary, even deliberate, in an effort to get better value out of a deal.
It’s why a company that has moved from $0.07 to $0.14 will set a financing at, say, $0.10 rather than where they were when the news release announcing the offer is sent out.
Aurora’s offer for Cannimed isn’t a bad one; both companies would instantly be worth more combined than they are apart, and would have a monster footprint on the Canadian – and global – weed scene.
But there are concerns.
Aurora’s valuation today is massively based on things that don’t yet exist. The company has, from what we can see, 55,000 sq. ft of current growing space. Admittedly, it’s building out to a million sq. ft. and will at some point have that massive grow good to go – but it doesn’t today.
ACB has spent a large amount of money building out a patient base that, from what we can tell, will be of little value when most of Canada’s weed system is forced to sell to government-backed distributors for a lower than retail price. ACB’s figures in terms of grams sold to square footage in operation, from what we can tell, show they’re doing a large business in selling third party weed rather than their own – or they’re eight times more efficient per square foot than just about anyone else in the market, which seems unlikely.
That’s not to say ACB is worthless – far from it. But its worth *today*, for what it actually owns today, seems very inflated, as Cannimed rightly points out, and the offer it made for Cannimed is far closer to CMED’s base price if you take averages into consideration.
If you’re a CMED owner and you think today’s ACB price will hold through the time it takes to finalize the transaction, then you’d be right to jump on the deal. If you’re more cynical, and think a correction is likely, and that ACB is more exposed to such a correction than most because of how short a time its stock has been near its current value, which would be a fair and defensible perspective, then the deal is one to push back on.
All this becomes far more complex when you figure in that CMED has an acquisition deal of its own going ahead, in that it wants to take over Newstrike Resources (HIP.C).
CanniMed also announces that it has previously entered into an exclusivity agreement with and is in advanced discussions to acquire Newstrike Resources Ltd. at an exchange ratio of 0.033 CanniMed share per Newstrike share, a transaction that, if completed, would be expected to provide CanniMed with accelerated penetration into the adult-use cannabis market. Newstrike has a leading recreational brand, Up Cannabis, and a partnership with the Canadian musical artists, The Tragically Hip. Any transaction with Newstrike is expected to be subject to, among other things, the approval of shareholders of CanniMed and Newstrike at special meetings of shareholders called for that purpose and regulatory and court approval. There is, however, no certainty that any transaction with Newstrike will be entered into or completed.
IMPORTANT THINGS TO CONSIDER:
When a company suddenly hits a massive spike in value that may not be accurately reflecting its real business, it’s commonplace to try to lock in an acquisition to justify that rise. As an example, when Canopy Growth Corp (WEED.T) experienced a similar max out of its stock price last year, it quickly jumped on Mettrum for a $400m deal that didn’t appear too smart when it came out Mettrum was pouring weed killer all over its crop, and hiding it from authorities.
That said, the deal raised the valuation of all competitors in the market, which in turn justified Canopy’s own insane (at the time) valuation.
In making a quiet all-stock offer to the CMED board that is non-binding (which is why the CMED board didn’t make it public), Aurora spends no money AT ALL, takes no risk, can walk away any time, but manages to go some way to justifying its current crazy value.
And CMED, in doing THE SAME THING with Newstrike, increases its own perceived value by making non-binding moves of its own, which it may use as justification to put off a decision on Aurora long enough for the market to assess the new inflated valuations of these companies as their new base.
Confused? This is just the beginning. Ask yourself why Supreme Pharma (FIRE.T), which has tens of millions of cash in the bank, just went out and raised another $30m+.
Offense is defense. When the big boys come, you need to be ready to punch above your weight. Forget weed market corrections, we’re about to enter an ungodly new world where mergers and acquisitions are used to justify inflated valuations, which will lead to more inflated valuations.
Any weed company that is undervalued is a potential target. Every weed company is a potential buyer. Giddy up.
— Chris Parry