Cannabis Company Valuation: The Emperors Are Pretty Naked

To understand why the biggest companies in the industry are reporting huge losses and small to non-existent shareholder value, yet continue to talk rosy scenarios by the end of the decade, it is necessary to understand the logic behind the scenes – or lack thereof

I learned a few interesting things at MBA school. One of them was the logic, if not equations commonly used for valuing companies as well as additional tools to poke holes in the same.

Before I proceed further, it is also mandatory to say that there is always debate about the validity of company valuations. This is as much an “art” as it is a science, although math skills and common-sense assumptions absolutely count.

When it comes to the cannabis industry, this is even more true. That said, most of the valuations and multiples beyond that discussed in the cannabis press are garbage,. In fact, industry growth and future worth is based on factors that are inherently unstable and unpredictable (such as changing regulations or how many patients will obtain insurance underwriting of their medications). Not to mention usually lack an accurate understanding of (particularly) the European and specifically German medical market, or (frankly) the realities of patient approvals. And now of course, the baited hype about the recreational market now in the offing (no matter when that happens) has puffed an additional storm of hot air into the entire discussion.

As a result, there are plenty of fact free estimates of the “worth” of the German cannabis market, in particular. It just does not mean that they are reliable.

That said, this is a complicated discussion. Consider this a Cliff’s Notes overview.

Valuation Models and Equations

There are many equations one can use to value a company. Generally, however, such calculations (which are always estimates), no matter the vertical, are based broadly on the following:

  1. Sales
  2. Profit (namely sales minus operating expenses including depreciation and taxes plus any R&D costs). This also must be offset by any lawsuits or product recalls.
  3. Existing assets – including real estate and inventory (which is another issue in an environment where that inventory is a commodity with a limited shelf life and further is often destroyed before it gets to market).
  4. Drivers and challenges. This includes everything from opening markets to shifting (and often complex) regulations including everything from growing conditions to labelling, packaging, the cost of production, and distribution, including setting up specialty retail outlets. This also usually includes estimates of how big a new market might become over a period of time.

For the layperson, it is often easiest to consult with professional analyses – and these days finding firms who do this in other verticals now turning their gaze to the cannabis industry is much easier. For example, Research and Markets has estimated that the worth of the global cannabis industry will reach US $1,76,005.5 million in eight years.

They came to this analysis by looking at large players in the industry, including Canopy Growth, Tilray, Aurora, Medmen, Hexo, Organigram, GW Pharmaceuticals and others.

However, this should only be a starting point. The larger players in the market are precisely those who are reporting not only large losses now but are also facing a raft of problems in part because of overconfidence, mismanagement, overpaying for acquisitions, too-rapid expansions, and plain dumb mistakes beyond any regulatory hurdles (which are also significant). Two easy examples? Both Canopy Growth and Tilray reported large losses this summer. This does not mean such trends will continue forever. What it should do, however, is impact the ”worth” of the market in ways that are not showing up in traditional analyses.

In my opinion, most of the estimates of both the medical market in Germany, and beyond this, the speed and growth of the recreational market, are inaccurate and based on both supposition and hype.

Dank Math Does Not Add Up

One very good way to understand how this logic has been misapplied in the German scenario (as one slice of the pie, albeit an important one) is that sales for publicly insured patients (drawn from the 90% of the population that has public health insurance coverage) are flat. Further, they are not likely to magically or dramatically increase any time soon.

Insiders on the last mile sales end of the same – specifically pharmacists – all concur.

This means that this segment of the market will not grow very much in the near future, because growth depends on increased insurance approvals. That will not happen unless the medical infrastructure is more convinced of efficacy and costs begin to decrease and normalize (for example dronabinol).

Beyond this, it is impossible to estimate the legal, self-payer market. There is no official data kept by authorities.

It is possible to look at other kinds of data – for example the tons of cannabis produced domestically, which was set by the cultivation bid at 10.4 tons over the course of four years – plus the cannabis that is imported (which was according to Statista was 20,566 kilograms as of 2021) and sold. This is still the same population of consumers as above, known as patients.

This too presents problems, starting with the fact that importing product and then successfully selling it to end consumers are two different propositions. There are now about 138 strains of flower in the market. According to the German government, only about 9000 kg made its way to pharmacies – meaning that about half of what was imported was not sold.

The next problem is understanding how individual strains are performing in the market – and who sells them, at what price, and to whom. A last mile distributor who sells to pharmacies is different than an importer or wholesaler who might sell to multiple distribution companies.

There is no reliable data, anywhere, on this. The only reasonable generality one can reach is that sales of dronabinol are about half of the total market.

Certainly, there are, at minimum, 800,000 to 1 million potential patients in Germany (about 1% of the total population), although this is also very low estimate if one considers that 10% of the adult population has some kind of serious disability, many of which can be treated with cannabinoids of some kind. The current market (at best) is reaching – maximum – about 130,000 patients – or roughly just over 10% of the potential. This gap is not going to close until more insurers cover more claims without forcing patients to sue them.

Beyond this, any estimate, from anyone, about the speed of development and potential worth of the recreational market is absolute and pure speculation. Even if one is going on the estimated worth of the illegal market. See Canada as a prime example of the same where about half of the market is still technically “black.”

This reality, alone, should throw major doubts on all valuations based on anything that presumes the medical market will grow significantly in the short term (without a great deal of expensive R&D to create studies that so far both companies and governments are loath to fund), as well as the potential worth of the recreational market to come.

By definition, this also affects the valuation of any company in this vertical – not to mention the current industry “multipliers” – which are used to determine, among other things, specific company “worth” as well as the price paid for companies who are bought up by others based on the potential market size and the company’s share of the same.

The “Value” of the German Cannabis Industry

Let’s assume for the moment that the entire legal medical German cannabis market is correctly worth, based on imports, $400,000,000 – which is what Statista has estimated – and many in the cannabis press have subsequently reported. This is actually a much higher number than is being reported by official government numbers based on actual sales – from the GKV – the association of German public health insurers – which puts it at about $40,000,000 per quarter – or $160,000,000.  The latter is much more accurate, for obvious reasons. Business Insider puts the worth of the market at $200 million – which given the variables, is a reasonable variance.

Why the disparity? Good question. It could be private payers, which remains an unknowable black hole. But this is one of the largest problems in any estimation of this market, much less calculation of an individual company’s “worth” in it, much less “market share.”

For example, to rip a scenario from the headlines right now – namely Four 20 Pharma, the company claims to have about 10% of this market share. Using the above valuation calculation – based on only on sales – this means that their current valuation is about €20 million. This in turn puts the pending purchase price (for 55% of the company) by Curaleaf, for €19.7 million in an interesting light – no matter the “future worth” of the medical market alone, plus whatever the size of the early rec market.

What makes this valuation even more intriguing is that, according to NorthData, however, the total assets of the company as of last year, were about €4.7 million – and earnings were about 670k in 2021.

This is an interesting disparity. If, for example, a 5x multiplier was added to this, which is what is being used in Canada, it also puts the worth of the company (including future opportunities) at about €25 million. If a five-time multiplier were applied to the €20 million figure, it would create a company with a worth of €100 million, which again, does not add up when one considers the offer price for the company by Curaleaf for a controlling interest in the same.

This still does not answer the question about why Curaleaf paid so much to acquire a 55% stake in the same – except that the firm believes that the market here will be worth 2.5 times more than it is today by 2025 – or more than double the amount of cannabis imports now into the medical market. This is certainly an aggressive estimate – but how realistic is it?

Statista is also estimating that the illegal market for cannabis in Germany is worth about €14.2 Billion per year. It is impossible to know for sure because this market is absolutely obscure.

As a result, any estimate, by any company CEO or analyst, about the shape, development and worth of this market, is essentially worthless. Nobody knows when recreational reform will be implemented, what the shape of the market will be, what products will be allowed (and from where), what the taxes will be, and what the start-up costs will be (including distribution and dispensary licensing, staff training and other costs required to set up sales).

The market might be worth $1 Billion total (or even “just” recreational sales) by 2025, much as the total European market may be worth over $3 Billion. More likely, it will not. Sales in Canada may well reach $4 Billion this year, based on projections of sales data so far this year. However this is four years into a recreational market that kicked off late, with far more fanfare and far less training and regulation than is awaiting those on the German side of the border.

Bottom line? Nobody does know. Spending a great deal of money to enter a still forming market is a game the large Canadians played too, with significant losses along the way.

Investors – as well as companies eyeing expansions here – take note.

Captive Market Share

While this deserves its own post, in my personal opinion, the most valuable companies in the German market today are the three companies who won the German cultivation bid, namely the merged Tilray/Aphria, Aurora and DEMECAN, plus Cansativa, the distributor in Frankfurt who won the monopoly on distributing the same.

Fair or unfair.

The reason? They have a guaranteed sales contract with the German government for a set period of time.

Beyond these firms, there are an estimated 180 other firms in the German market who have successfully obtained a pharmaceutical distribution license or are using a multipurposed pharma license to also distribute cannabis. Everyone in this segment of the market is facing similar pressures – namely getting doctors to prescribe their products, patients to advocate for them, and insurers to approve them.

Of these companies, DEMECAN and Cansativa are the most valuable, simply because they do not have the footprint, or liabilities of the other companies AND have guaranteed sales, by statute. That is not something anyone else in this market can say. They are also the only two “German” companies in the mix – which is a critical distinction.

It does not mean that this equation cannot change. However, for the moment, as well as the short term – which is the next 24-36 months, this is a realistic snapshot of a market that is full of risk and volatility, with few tea leaves to read accurately. Not to mention valuations that appear to be based on anything much more than cannabis hocus pocus.


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