On Thursday, HEXO Corp. (NASDAQ:HEXO) finalized a strategic partnership with Tilray Brands, Inc. (NASDAQ:TLRY), which includes a new debt financing agreement under which the Canadian cannabis giant agreed to acquire $211 million of senior secured convertible notes that were initially issued by HEXO to HT Investments MA LLC at 95% of face value.
The deal brings together Canada’s top two cannabis market share leaders and is expected to create efficiencies of up to CA$50 million ($39.57 million) within two years, which will be shared equally between the two entities.
The Analyst
Cantor Fitzgerald’s analyst Pablo Zuanic maintained a ‘Neutral’ rating on Tilray’s stock, keeping the price target of $6.9 unchanged.
The analyst stayed ‘Neutral’ on HEXO’s stock, lowering the price target to CA$0.90 from C$1.20 given the higher share count.
The Thesis
While the terms of the notes are significantly more favorable to HEXO and will enable the company to strengthen its balance sheet and accelerate its transformation into a cash flow positive business, Zuanic said that the transaction effectively doubles Tilray’s market share to 20% for (only) $182 million and the eventual cost of the HEXO float.
HEXO
The purchase of the notes provided HEXO with immediate operational flexibility. In addition, the terms of the transaction unlock $80 million of previously-restricted cash, which, when combined with the CA$180 million equity backstop commitment provides HEXO with significant liquidity to invest in organic growth.
Zuanic said that with $20-50 million in monthly redemptions from the senior secured convertible notes, “the status quo was not sustainable for HEXO,” adding that it “now has more breathing space.”
The company is poised to release its second-quarter earnings report later this month, which will provide an update on its “Path Forward” plan as well as on the pro forma share count.
“HEXO shareholders should be encouraged by the convertible debt transaction announced," the analyst said.
However, if Tilray decides to convert the debt once the stock crosses the C$0.90 conversion price, which is 18% above current levels – and purchases the entire float, “the upside could be capped,” he explained.
Still, the analyst added that regulatory issues might prevent that move in the short term, resulting in HEXO shareholders hypothetically enjoying more than 18% upside.
Tilray
In the scenario where Tilray decides to purchase the remaining 63% soon after HEXO shares cross the conversion price, it would have to pay (only) $560 million or CA$ 709 million, the analyst said. Six months ago, HEXO paid CA$925Mn to buy Redecan.
“If we assume the combined company can get to 25% rec market share and 20% EBITDA margins at 20x EBITDA by Dec’ 2024, the rec piece of Tilray (including HEXO) would be worth CA$3.6Bn or US$2.8Bn,” Zuanic said, which is well above the current market cap of Tilray.
“The only question now is when will Tilray feel emboldened enough (from a regulatory perspective) to buy all the HEXO float,” he explained, adding that he only can say ‘Chapeau!’ to Tilray’s chairman and CEO Irwin Simon.
To see Irwin Simon in person, there’s still time to sign up for the Benzinga Cannabis Capital Conference in Miami, where Irwin is a keynote speaker among many other top names in the cannabis industry. Click here for more info.
Photo: Courtesy of Yiorgos Ntrahas on Unsplash
