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Here’s the Real Problem with Altria Overpaying for CRON Stock

Luce Emerson

Canadian-based marijuana company Cronos (NASDAQ:CRON) soared earlier this year, but Cronos stock is falling back to earth as the frenzy dies down.

cronos stock

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The rise in CRON stock mostly is attributable to interest from Altria (NYSE:MO). The owner of veteran cigarette brands Marlboro, Parliament, and Virginia Slims got into the game with a $1.8 billion investment in Cronos.

At the time of transaction, Altria’s $1.8 billion investment translated roughly to a 45% ownership of Cronos with warrants to own up to 55% of the company, which Altria has the option to exercise anytime in the next four years.

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Altria’s controlling interest in Cronos takes place on the heels of two high-profile investments in marijuana stocks in 2018. Constellation Brands (NYSE:STZ), the maker of Corona and Modelo beer, was arguably the first-mover in sealing a deal for a 38% stake in Canopy Growth (NYSE:CGC).

Late in the year, it was Switzerland-based Big Pharma company, Novartis (NYSE:NVS) that threw its hat in the cannabis ring, announcing a partnership with Tilray (NASDAQ:TLRY).

As the above transactions show, suitors interested in investing in the cannabis sector run the gamut. From alcoholic beverage companies to large pharmaceutical companies and now to Big Tobacco. Many industries are already feeling the initial wave of marijuana legalization across certain states within the U.S. impact sales.

Amidst declining sales, Altria was left then, with no choice but to get on the bandwagon.

CRON Stock Hits the Big Time

Looking closer at the data though, in Altria’s case there seems to have been a case of FOMO (fear of missing out). To begin with, publicly-traded cannabis companies on major U.S. are a recent novelty. Before, Canadian-listed marijuana stocks that wanted to appeal to the broader U.S. investor base were relegated to over-the-counter exchanges. This change has made these cannabis investments more palatable for shareholders.

Because U.S. exchanges like the New York Stock Exchange and tech-focused NASDAQ will not list companies that break U.S. federal law, U.S.-based cannabis companies find themselves at a disadvantage in raising capital compared to their northern counterparts. Marijuana is legal in Canada, so as long as these Canadian-based marijuana companies stick to operating there, they aren’t violating any laws in the jurisdictions they operate in.

While U.S. companies salivate over the kinds of money and high valuations that Canadian companies have gotten, the fact is that I can see a future in which U.S. competitors in the space no longer have to go to the Canadian TSX to raise money. Once they are able to list on U.S. Exchanges, companies interested in the cannabis space will have a larger pool of partners to choose from.

Potentially, these partners will generate more synergies as well given their knowledge and scale within the domestic market.

Before that future comes to pass, however, Altria may have felt that it was a do or die situation. MO seemed like to would be willing to pay any amount to get a toehold in the rapidly-growing cannabis sector.

Altria Overpays for CRON Stock

With CGC and TLRY already off the market, Altria jumped for CRON.

There are certainly synergies across Altria’s core business with cannabis than with beer. Still it is hard to justify paying a price to sales multiple of 267x (compare that to CGC’s 86x).

If we look at a less conventional metric: market capitalization to kilograms of cannabis sold, it gives an idea of the comparatively stratospheric valuation that Altria paid.

Last fiscal year, CRON sold 2,737 kilograms of dry cannabis. Using an estimated price of $15 per share from when Altria announced the deal late last year and March of this year when they closed the deal and outstanding shares of 333 million, a market cap figure emerges of $5 billion. Do the division and Altria paid an estimated $1.8 million per kilogram of cannabis sold. Sound high?

Doing the same exercise with CGC while adjusting for an earlier timeframe since the acquisition closed last year, I use trailing twelve months kilograms sold of 9,750 and 177 million outstanding shares. The result is $545,000 market capitalization/kilogram, less than a third of what Altria paid for CRON.

The Final Word on CRON Stock

Right now, there are a lot of projects underway that will decide if the CRON investment is ultimately accretive. There is the much-touted supply agreement with Cura Cannabis Solutions, for example.

Remember though, this five year take-or-pay supply agreement to purchase a minimum of 20,000 kilograms of cannabis per annum from Cronos can only take place after Cura receives all necessary licenses from Health Canada.

There’s also the potential 120-acre facility in Australia that is under review. If completed, the expected annual production capacity is 2,000 kilograms. And let’s not forget the 850,000 sq. ft. Ontario-based greenhouse that is expected to have a 70,000 kilograms capacity.

Overall, this is probably still a net positive for Altria shareholders as they’ll benefit from the growth profile and exposure to cannabis. The price tag, however, will be hard to justify if CRON stock doesn’t deliver on its growth projections.

As of this writing, Luce Emerson did not hold a position in any of the aforementioned securities.

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