Cronos Projected To Experience 11% Average Annual Volume Growth Based On 10-Year DCF

Business Strategy & Outlook

Cronos Group cultivates and sells cannabis predominantly in Canada and hemp-derived CBD in the U.S. but also participates in the global medical cannabis market. Cronos does not disclose its sales by recreational and medical end-markets. The entire Canadian market is forecasted to grow roughly 20% per year on average over the next decade, driven by the conversion of black-market consumers into the legal market and new cannabis consumers. Cronos is half the size or smaller than the majority of other Canadian licensed producers. This adds to the challenge of reaching profitability given a harder ability to scale overhead expenses. International medical cannabis exports are a small but growing part of Cronos. At present, Cronos exports into Germany, Poland, and Israel. The global market looks lucrative, given higher realized prices and the growing acceptance of cannabis’ medical benefits. Exporters must pass strict regulations to enter markets, protecting early entrants like Cronos. Roughly 20% average annual growth is forecasted over the next decade. Cronos’ U.S. operations largely center on hemp-derived CBD.

CBD is generally viewed as a less attractive opportunity given the massive amount of competition and low barriers to entry. The company recognized a $236 million impairment in 2021, which confirms this concept. In June 2021, it acquired an option for a 10.5% stake in U.S. multistate operator PharmaCann, giving Cronos THC investment exposure. For THC, the U.S. market remains murky with individual states legalizing recreational or medical cannabis while it remains illegal federally. However, it is expected that federal law will be changed to allow states to decide THC legality within their borders by the end of 2023. Cronos’ strategy is geared for an eventual national distribution model more akin to alcohol and tobacco rather than today’s multi-state operator model. Speculation that national distribution will come anytime soon is met with skepticism, and the dispensary will hold most of the value nevertheless. The PharmaCann option is a good albeit small hedge should this scenario be the case in the future of the U.S. market.

Financial Strengths

Cronos carries virtually no debt. At the end of its first quarter, the company had only about $9 million in lease obligations compared with a market capitalization of roughly $1.2 billion as of May 2022. Cronos continues to carry roughly $1 billion in cash, including short-term investments, which represents the majority of its current market value. The company continues to generate cash losses, but a $1.8 billion investment from Altria in March 2019 reduced the need for significant capital raises in the future. The company is projected to reach positive free cash flow in 2028 and that the Altria investment will be enough to fund expanded operations to meet surging demand growth in Canada and U.S. CBD. Benefiting its financial health, Cronos has generally relied on equity to fund acquisitions and expansion, with no significant debt raises in its history. The company is expected to rely on equity to fund capital needs, which is typical for growth companies such as Cronos to help alleviate potential pressure on its financial health.

Bulls Say

Altria Group’s investment of $1.8 billion provides Cronos with capital and a strategic partner with significant product development, branding, and regulatory experience. If successful, Altria Group may increase its ownership of Cronos or potentially acquire it.

Altria’s distribution network gives Cronos an advantage in the hyper competitive U.S. CBD market and can be leveraged for eventual THC distribution.

Cronos’ option to acquire 10.5% of U.S. multistate operator PharmaCann gives U.S. THC investment exposure and a hedge if the dispensary model persists.

Company Description

Cronos Group, headquartered in Toronto, Canada cultivates and sells medicinal and recreational cannabis through its medicinal brand, Peace Naturals, and its two recreational brands, Cove and Spinach. Although it primarily operates in Canada, Cronos exports medical cannabis to Poland and Germany. In addition, it has entered joint ventures in Israel, Colombia, and Australia to drive further international cultivation and distribution growth. In the U.S. the company directly sells hemp-derived CBD and has an option to acquire 10.5% of U.S. multistate operator PharmaCann.

(Source: Morningstar)

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