5 Key Factors to Consider Before Making a Cannabis Acquisition
By Beau Whitney, VP and Senior Economist, New Frontier Data; and Andrew R. Lines, MAI, Principal, CohnReznick
With talk of a looming recession, analysts predict that given a downturn there will be a short list of growth industries capable of delivering a healthy return on investment. Cannabis is near the top of it: Spending on legal cannabis in the U.S. is expected to increase from $12.9 billion in 2019 to $20.4 billion in 2022, according to New Frontier Data.
As investors aggressively pursue opportunities in the industry, the pace of consolidation continues to accelerate. CohnReznick and New Frontier Data have both seen an increase in buy-side due diligence inquiries which correlate with an increase in publicly reported acquisitions.
Among the investors pursuing deals are heavyweight players from each Big Pharma, Big Tobacco and Big Liquor, as well as institutional investment companies like BlackRock. As legal issues get resolved and public support increases, the industry will become increasingly attractive to institutional investors. A looming national recession could push more investors toward cannabis, chasing yield in the strongest growth market of the last few years.
Further crowding the field of potential buyers are existing cannabis businesses — including large cannabis companies traded on the Canadian exchanges — which see acquisition as a fast way to build brands, expand market footprints, and raise their public market values. Also in the game are regional players which are buying up smaller companies within their spheres of influence to increase their respective sizes and, ultimately, position themselves for their own lucrative exits down the road.
As M&A in the cannabis field heats up, there are five factors which all buyers should keep in mind when looking for an acquisition target:
- It’s not all about profitability.
Many investors are focused on revenue over profitability. Why? Because the successful companies of tomorrow are those that are grabbing market shares and growing revenues today. That said, for more mature companies, profitability is a vital factor.
- Technology is a competitive edge.
The cannabis market is moving toward personalization, which requires more advanced technologies such as state-of-the-art LED lighting in cultivation centers. For example, customers are wanting to place orders for cannabis with specified amounts of THC and CBD, as well as a plant grown to exacting specifications. Such could mean that cultivators who can leverage agritech to produce designer cannabis may be increasingly popular moving forward. Advanced business systems are also important. Any acquisition target should have the fundamentals done right, such as proper software for sales, accounting, and logistics.
- Valuations vary wildly from state to state.
At this point, no two states are alike: A cannabis company in Oregon may have an entirely different valuation from a similar company in Florida: Oregon has very low barriers to entry, offering relative ease to obtain a cannabis business license; Florida, conversely, grants a very limited number of operating licenses, meaning that cannabis businesses there are significantly more valuable. A license for a dispensary in Oregon might sell for $50,000-$100,000, whereas in Florida it could be worth a few million dollars.
- Professional management teams are essential.
A cannabis company should have professional management in place – many do. As an increasing number of executives from pharmaceutical and consumer packaged-goods companies move into the cannabis industry, they bring along honed, sophisticated business practices.
- Operational efficiencies can lead to success.
Like any successful enterprise in other industries, a cannabusiness should have a set of standard operating procedures. For example, that company should be doing business with the right partners and suppliers to maintain continuity of supply and capacity to meet demand. It also means that the company has designed and implemented a series of processes to achieve its objectives and mitigate risk.
As many factors coalesce, the cannabis industry has sparked a gold-rush mentality among many investors who want to stake a claim. For those considering an acquisition in the field, it is essential to first perform detailed due diligence, and apply metrics specific to the industry. Properly understanding the acquisition target before the deal closes can ultimately serve to ensure a profitable outcome.
For more information regarding entry to the cannabis industry, contact CohnReznick.com.
This content has been prepared for informational purposes, is general guidance only and does not constitute legal or professional advice. You should not act upon the information contained in this publication without first obtaining professional advice specific to, among other things, your individual facts, circumstances, and jurisdiction. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its partners, employees, and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.