Rapid Reaction: Top takeaways from Canopy’s $3.4 billion deal to buy Acreage

You’ve no doubt heard the big buzz by now: Canadian cannabis giant Canopy Growth struck a $3.4 billion deal to buy New York-based Acreage Holdings.

The move would be the first major Canada-U.S. cannabis deal – but the purchase won’t be executed until the American government removes federal marijuana prohibition.

Here are key takeaways Investor Intelligence subscribers should know:

Details on the Deal & Valuation

  • Announced early Thursday, the deal will give Canopy the right to acquire all outstanding shares of Acreage once marijuana is legal at a federal level in the United States.
  • Acreage, a multistate operator (MSO) with a presence in more than a dozen U.S. markets, will receive an immediate payment of $300 million, or $2.55 per Acreage subordinate voting share, based on outstanding shares.
  • If exercised, holders of Acreage’s subordinate voting shares will get roughly 0.6 of a common Canopy share – valuing the deal at $3.4 billion and making it the richest M&A transaction in the cannabis industry to date.
  • The deal also positions Acreage as Canopy’s exclusive U.S. target, CEO Bruce Linton told Investor Intelligence.

“As far as MSOs goes – there are no others,” he said. “As far as other opportunities, they will come through these guys.”

Other terms of the agreement include:

  • Plans to execute a number of licensing agreements that will give Acreage access to Canopy’s suite of intellectual property and brands, including Tweed and Tokyo Smoke. This structure allows Canopy to “lend down all of our know-how, trademarks and IP that we can so that they can dominate,” Linton said. “Between now and (when the deal is finalized), we can map out where would be the best locations to have the best brands carried. What technologies do you need where?”
  • Acreage President George Allen will leave the company immediately, and CEO Kevin Murphy will assume the role of president. Additional details about Allen’s departure were not immediately available.
  • Acreage will pay a $150 million fee if the deal is terminated under certain circumstances.
  • The right to a five-business-day period for Canopy Growth to match any superior proposal received by Acreage.

For now, and until federal reform in the United States is enacted – triggering the execution of this deal – Canopy and Acreage will continue to operate as separate companies.

For Acreage, the pending deal “accelerates” the company’s aggressive expansion plans that has it on target to build out more than 78 medical and recreational dispensaries in 20 states by 2020, Murphy told Investor Intelligence.

“It will give us much more enhanced liquidity … cheaper currency through stock and that gives me the opportunity to go out and buy more of the U.S. at a reasonable price,” he said.

“Every MSO in this country needs to access more and more capital. We now sit in the desirable seat with today’s pricing of roughly $1.5 billion in dry powder to go out and do deals like we did today in Nevada.”

Murphy said the company is also ramping up M&A targets in Arizona, Maryland and Pennsylvania.

“We now have the opportunity to sit in the driver’s seat as the consolidator in (the U.S.),” he said.

The deal marks a 42% premium to Acreage’s 30-day volume-weighted average price and a 44X multiple on the company’s trailing 12-month pro forma revenues of $77.2 million, according to Vivien Azer, an analyst at Cowen.

“I would call this game-change in the industry for sure,” said Jesse Pytlak, an analyst with Toronto-based Cormark Securities.

“Valuations in the U.S. cannabis space are definitely still in the discovery process, but from Canopy’s perspective, it looks like they’re getting an attractive deal given the strength of Acreage’s asset base.”

Going forward, entering the U.S. market likely will continue to get even more expensive, according to Max Mausner, senior analyst at Vantage Asset Management in Toronto.

“Limited license frameworks and tight state-level regulatory control of cannabis production and distribution means moats are being dug today by the early movers such as Acreage, Cresco or Curaleaf – moats that will only become more expensive to cross as the incumbents build brands and expand their national market share,” he said.

Market and analyst reaction overall has been positive, with shares of Canopy (NYSE: CGC) up nearly 6%, to $45.75 a share, in midday trading.

Why Acreage?

Acreage boasts the largest footprint among multistate operators (MSOs) – including Cresco Labs, Curaleaf, Green Thumb Industries, Harvest Health & Recreation and MedMen.

“The reason we wanted to do the deal with these guys (Acreage) is that they run their business their way,” Linton said.

“We’re not here to run their business. We’re here to help blend in things to make it more successful.”

The company has also lured powerful politicos and mainstream corporate heavyweights to its board, such as John Boehner, former speaker of the U.S. House of Representatives; Douglas Maine, a former CFO at IBM; and Brian Mulroney, a former Canadian prime minister.

“These relationships will likely prove helpful in pushing for a change in U.S. laws surrounding cannabis,” Azer noted.

Sources told Investor Intelligence after the deal that Acreage wasn’t the first MSO approached by Canopy.

At least two others – Harvest Health and Green Thumb – were also on Canopy’s shortlist of contenders.

“It’s our job to have conversations with anyone globally who is looking to get into the U.S. cannabis space,” Harvest Health CEO Steve White told Investor Intelligence.

He declined to confirm whether Canopy made an offer for Harvest Health.

“For Acreage and Canopy, it’s a fantastic deal,” White said. “Canopy just won the race to get into the U.S. …

“For Acreage, they just sold at a premium a bunch of assets they put together as a bunch of private equity guys. If that was their plan from the beginning, they executed it brilliantly.

“I think Canopy did their homework on all the leading MSOs,” Pytlak said. “As an early mover in Canada and elsewhere, Canopy clearly wants to continue that (trend) in the U.S. because the sooner they can get exposure there, the better.”

More Deals on the Way? 

The deal structured between Canopy and Acreage could serve as a “template” for other big acquirers looking to tap the U.S. cannabis market.

“People consider the U.S. to be the crown jewel of the cannabis market, and now there is a blueprint available for everyone that wants to get in,” Pytlak said.

The list of acquirers extends beyond licensed Canadian companies and includes big beverage companies and Big Tobacco.

“You could easily see these guys trying to do something similar,” Pytlak said. “It will be interesting to see how competitors respond.”

The largest U.S. cannabis operators will likely be among the top targets, but whether it would behoove them to strike a deal is questionable, noted Andrew Kessner, an analyst with New York-based William O’Neil.

“In the last year, U.S. companies have gotten a lot larger, and they’re catching up to Canadian companies when you begin to look at the top firms ranked by market cap,” Kessner said.

Curaleaf ($4.8 billion), Green Thumb ($2.8 billion) and Harvest Health ($1.3 billion) rank just behind Canada’s top cannabis companies in market cap.

“If you’re a GTI or Harvest right now, you probably don’t want to put a cap on your valuation today if you think your share price is going to appreciate more than 30% over the next few years,” Kessner said.

“This deal definitely brings in a new dynamic as to how people are viewing the types of deals that can happen in this space and which companies will be targeted.”