Aphria Inc. (TSX: APH) has a large and expanding footprint, industry-leading margins and a drive to add more partnerships
SmallCapPower | September 15, 2017: Aphria Inc. (TSX: APH), based in Ontario, Canada, is focused on producing and selling medical marijuana through retail sales (online and telephone) and wholesale channels (ACMPR Licenced Producers). The Company continues to expand its footprint to meet the growing demand for medical cannabis and the potential large demand for recreational use in 2018. The recent stock-price correction of nearly 30% from its April peak offers investors an attractive entry point.
Investment thesis
- One of Canada’s largest producers of cannabis with the lowest cost structures
- Recent deals with Scientus Pharma and Nuuvera further strengthen Aphria’s market position
- Recent correction offers a good entry point
Well positioned to capture large market opportunity with its large footprint
Aphria is one of the largest producers of cannabis in Canada, with current annual production capacity of nearly 9,000 kilos. The Company continues to expand its greenfield capacity to meet the growing demand of medical cannabis and the large recreational market starting 2018. As part of this, the annual production capacity is expected to reach 30,000 kilos by end 2017 and 100,000 kilos by mid 2018. This expansion is expected to result in significant increase in revenues and earnings growth over the next couple of years.
Continued operational efficiency resulting in low production costs
Driven by improved growing techniques and favorable climate, Aphria continues to deliver the industry’s lowest production costs. For example, compared to its competitor’s fertilizer cost of $0.22/L, Aphria’s cost is just $0.005L. For the fourth quarter of fiscal 2017, all-in costs of dried cannabis per gram decreased $0.56, or 25.1%, to $1.67 from $2.23 in the preceding quarter, and cash cost to produce per gram decreased $0.62, or 35.8%, to $1.11 from $1.73.
Recent deals further strengthen Aphria’s market position
As part of the Company’s strategy to expand its business through deals, Aphria recently completed two important partnerships with Scientus Pharma and Nuuvera Corp. On August 9, 2017, Aphria inked a global partnership with Nuuvera, a global cannabis business, to expand production internationally across Europe, Israel and Latin America. However the partnership will initially focus on the Canadian market and tap international markets as regulations loosen and demand increases for medical marijuana in select markets globally. Some key terms of the deal include investment of $2 million in a Nuuvera common share offering and an agreement to supply Nuuvera 1,500 kgs of cannabis (growing to 17,000 kgs when Aphria completes its four-part expansion plan in 2018).
On August 15, 2017, the Company made investments of $11.5 million in Scientus Pharma, a biopharmaceutical company focused on the development of drugs that target the endocannabinoid receptors. The investment was by way debentures that earn interest of 8% and convertible to common share of Scientus Pharma at $2.75. The deal helps Aphria to gain access to Scientus’ suppliers, providing Aphria immediate access in the short-term to enhanced global opportunities.
Recent correction offers a good entry point
Marijuana stocks in general have been on a downtrend trend over the past few months on concerns of valuation and the lack of regulatory clarity in Canada. Those with weed assets in the U.S., such as Aphria, have fallen more on regulatory concerns, with the TMX announcing in early August that it plans to conduct a review of the legal consequences of Canadian marijuana companies with U.S. assets. However the TMX clarified recently on CDS clearance in securities of Aphria, paving the way to raise additional capital more easily as it scales up its operations. Aphria’s share price has fallen nearly 30% to $6.0 as of the close on September 11, 2017, from its yearly peak of $8.39 in April 10, 2017. This lowered price offers an opportunity for investors to enter Aphria, one of the largest producers of cannabis with the lowest production cost structure in Canada.
Financial analysis
Aphria reported a strong set of results for 4QFY17 and full-year fiscal 2017, driven by continued growth of patients, partially offset by a decrease in the average selling price per gram equivalent. Revenues for 4QFY17 surged 106% YOY to $5.7 million, while for the full year they increased 142% to $20.4 million. EBITDA came in at $2.8 million and $6.1 million for fourth quarter and full year, respectively. Net income for fiscal 2017 increased 955% to $4.2 million, or $0.04 per share, compared to $0.4 million, or $0.01 per share, in fiscal 2016.
Valuation and outlook
Cannabis is an emerging industry and standard valuation multiples such as PE and EV/EBITDA multiples may not be appropriate for valuing stocks in this space. Many listed stocks in this sector are factoring in large increases in their revenues and earnings on the growing demand for medical cannabis and the expected legalization of cannabis for recreational use in 2018. Aphria, with its large and expanding footprint, industry-leading margins and drive to add more partnerships, could offer the best value for investors looking for exposure to this space. Additionally, the recent sharp correction in its stock price makes the currently valuation appear even more appealing.
Disclosure: Neither the author nor any of the principals at SmallCapPower, or their family members, own shares in any of the company mentioned above.
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