The town of Smiths Falls, Ont., cheered when Canopy Growth Corp. and its Tweed brand closed a purchase in 2017 of a famed Hershey chocolate plant that had sat vacant for years.
As the first major Hershey
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factory outside the U.S, the location had been a tourist attraction for chocolate lovers for nearly 50 years. But Hershey then dealt an economic blow to Smiths Falls, taking away about 3,000 jobs when it pulled up stakes in 2008.
Canopy Growth transformed the sprawling site into its corporate headquarters and set up the largest indoor cannabis-production facility in Canada at the time.
At one point, about 1,100 people worked at the plant, and Canopy Growth became the leader in the Canadian cannabis market just as the government was poised to make Canada the first G-7 country to fully legalize cannabis for adult use.
Just six years later, things have gone awry. Canopy Growth is shutting down the Smiths Falls facility at 1 Hershey Drive and moving about 400 jobs to its new corporate headquarters across the street.
“This news is never easy to hear and it impacted a number of our residents and those who came to work at Canopy,” said Julia Crowder, the manager of economic development and tourism for the town of Smiths Falls. “Our community is resilient and the closure of Canopy is an end to one chapter and an opportunity for something new and better.”
No boom, just bust
Canopy’s demise comes as the Canadian legal cannabis market is floundering, hurt by oversupply, overspending and government missteps that have prevented any company from making a profit. As the biggest player thanks to a $4 billion investment from Corona beer maker Constellation Brands Inc.
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in 2018, Canopy has shed the most market capitalization of any company and is now facing a liquidity crisis.
On Friday, it disclosed it has until Jan. 8 to regain the $1 minimum price requirement for its stock to keep its Nasdaq listing in compliance.
High taxes have ensured that the illicit cannabis market has continued to thrive. A ban on advertising has made it nearly impossible for the new industry to promote itself. And a shortage of retail outlets at the start left companies with nowhere to sell their wares. For now, there’s no sign of a turnaround, and investors are turning their backs.
“We’ve been investing in the cannabis space since 2014. Not once have we considered investing into Canada,” said Matt Hawkins, managing partner of Entourage Effect Capital.
Some of Canopy Growth’s competitors have gone out of business, like Fire & Flower, or have been acquired, like Hexo, which was bought by Tilray Inc.
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Those that have survived have seen their stock prices swoon.
Canopy Growth’s
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stock, for example, has been trading under $1 a share since May. The stock is down more than 80% so far in 2023, including a fresh slide on Friday after the company announced plans to remove about $333 million of debt from its balance sheet in a deal that will dilute its stock further by issuing shares and debt that’s convertible into more stock.
The stock is underperforming the hard-hit Global X Cannabis exchange-traded fund
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which has lost about 41% of its value this year.
All told, Canopy Growth had lost about $19.35 billion in market value as of Wednesday from its height of $19.68 billion on Feb. 10, 2021, according to Dow Jones Market Data (see chart).
While that’s the biggest market-capitalization loss of any cannabis company, Canopy Growth is not alone in seeing its market cap go up in smoke.
Canopy Growth’s main rival, Tilray Brands Inc.
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had lost $18.76 billion in market value as of Wednesday from its height of $19.94 billion on Sept. 19, 2018.
Along with TerrAscend Corp.
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Cronos Group Inc.
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Aurora Cannabis Inc.
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and SNDL Inc. (formerly Sundial Growers)
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six of the largest Canadian cannabis companies including Canopy Growth and Tilray had lost nearly $62 billion in market cap from their respective heights as of Wednesday.
Still one of the most visible cannabis companies in Canada, Canopy Growth has a market cap that now ranks near the bottom of the six at $324 million, well below the $1.2 billion for Tilray and the $588 million for TerrAscend, but ahead of the $209 million for Aurora Cannabis.
This meltdown took place despite overall growth in the Canadian cannabis market. Total cannabis sales in Canada rose 17.9% in 2022 to C$4.52 billion (equivalent to $3.35 billion) on regulated adult use from 2021, according to Statistics Canada.
Rami El-Cheikh, a partner at EY and leader of the EY Americas Cannabis Center of Excellence, said cannabis companies built up oversized infrastructure based on projections for a sizeable market in Canada and a rapid legalization pace in international markets. U.S. legalization at the federal level had been expected by some optimists but for now remains uncertain at best.
“These companies made bold, risky bets and were keen be the first movers in the cannabis sector in Canada and internationally,” El-Cheikh said. “Unfortunately, the cannabis market did not evolve as per the original assumptions and hypotheses made by the cannabis companies.”
Now these companies are dealing with an oversized infrastructure with excessive overhead that is preventing them from achieving profitability.
Smaller cannabis companies such as OrganiGram Holdings Inc.
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and High Tide Inc.
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are doing relatively well in this market environment, however, partly because they didn’t attract large amounts of capital during the cannabis boom years that started around 2018, when Canada legalized adult-use cannabis.
“This was a blessing in disguise for the smaller companies,” El-Cheikh said. “It forced them to be lean and mean. Today they’re not overburdened by the same overhead and infrastructure that bigger cannabis companies have. They are more nimble and have been gaining market share.”
For its part, last month Canopy Growth issued a going-concern warning as it posted a fourth-quarter loss of C$648 million, compared with a year-ago loss of C$582.5 million, even as revenue dropped 14% to the restated figure of C$101.8 million.
Also read: Canopy Growth cuts 1,200 jobs in past year and issues going-concern warning as analyst eyes solvency of cannabis company
The auditor’s report included in Canopy Growth’s fourth-quarter filings stated: “The company has material debt obligations coming due in the short-term, has suffered recurring losses from operations and requires additional capital to fund its operations, which raise substantial doubt about its ability to continue as a going concern.”
KPMG resigned as Canopy Growth’s independent accountant and was replaced by PKFOD, the company said last month.
In another setback for the company, its largest investor, Constellation Brands, has said it does not plan to provide any more capital.
Julius Ivancsits, former CFO of Canopy rival Hexo, told MarketWatch that the going-concern language was more than likely triggered not by a lack of liquidity but by internal control issues stemming in part from a probe by the Securities and Exchange Commission into revenue recognition at the company’s BioSteel drink line.
Also read: As Tilray buys Hexo, former exec sees more consolidation ahead in Canadian cannabis
“As a company, you do not want to disclose this, as it hurts the stock and ability to raise capital,” Ivancsits said. “The auditors placed the language as a bit of a get-out-of-jail card. They raise their hand and this protects them from potential lawsuits. Most of the audit firms are either walking away from cannabis or reducing their exposure. The liability is high and the risk of default — not paying their bills — is increasing.”
Once a company discloses going-concern language, it often takes several years to resolve it, he said.
“They are in a tough spot with SEC investigation, pricing pressure, lack of leadership and businesses which are not accretive to their cannabis business,” he said. “Add in a likely pending reverse stock split — price below $1 — and Tilray now with No. 1 share. Ouch.”
Addressing concerns around the going-concern statement in its filings, Canopy Growth CFO Judy Hong said the company ended fiscal 2022 with $783 million in cash and short-term investments, with “a number of options that are executable over the next several months that will ensure we have sufficient capital to fund our ongoing operations and meet our financial covenants.”
The company is taking steps to reduce its operating cash burn, including cost reductions at BioSteel and closing and selling facilities as part of its “asset-light” approach.
“We’re also exploring additional options to monetize our noncore assets and businesses, and we’re also in discussions with our lenders and various options to reduce our debt in an accretive manner,” Hong said.
None of this seemed to impress Eight Capital analyst Ty Collin, who cut his price target on Canopy Growth to zero from C$1.75 and reiterated a sell rating that he’s had on the stock since late 2021.
“We believe it is no longer appropriate to value Canopy as a going concern,” Collin said in a July 5 research note.
All gone to look for America
Meanwhile, Canopy continues to pursue its plan, aired in October, to separate its U.S. businesses — including Acreage Holdings, Jetty Extracts and Wana Brands — and list the company on the Nasdaq under the name Canopy USA and with an independent board of directors.
While U.S. exchanges continue to ban U.S. companies that handle a plant that remains a Schedule I controlled substance, Canopy has tweaked its initial plans in order to comply with listing requirements.
Last month, it filed a revised proxy statement, and shareholders will vote at a special meeting.
All of these developments have weighed on Bruce Linton, who founded the company in 2013 as Tweed and renamed it Canopy Growth in 2015.
The genesis of the 2018 investment by Constellation Brands came after an effort by Linton to draw in capital to fuel growth through a strategic partnership. He approached several liquor giants and pharmaceutical companies but was turned down. Then he saw a 2016 interview with Constellation’s then-CEO Robert Sands about the potential of cannabis.
“Why wouldn’t big business, so to speak, be acutely interested in a category of that magnitude?” Sands said in the November 2016 interview with Ad Age. “If there’s a lot of money involved, it’s not going to be left to small mom-and-pops.”
After an initial $190 million investment in 2017, Constellation Brands paid $4 billion to raise its stake in Canopy Growth to 39% in 2018. The deal included warrants that effectively gave Constellation control of Canopy Growth.
Although the $4 billion investment generated enthusiasm and higher stock prices around the sector, friction soon arose between Constellation Brands and Linton.
By the middle of 2019, Linton was ousted as co-CEO of the company he had founded. Some on Wall Street cheered the move after the company’s track record of losses.
“While we commend Linton for his vision in establishing the world’s leading cannabis company, we believe new leadership will be a welcome change,” Cowen analyst Vivien Azer said in a research note at the time.
A few months later, Canopy Growth named David Klein as CEO. Klein is a 15-year veteran of Constellation Brands and spent time as its chief financial officer.
The way Linton sees it, when he left, the company was the leader by market cap, with $4 billion in the bank, low debt and a 26% market share, and it was selling more cannabis than it is today. The stock price was about $56 a share, compared with less than 60 cents a share now.
Canopy Growth’s pivot to its asset-light model of cost savings and laying people off will probably not work, he said.
“The market has grown by more than three times [since 2019] and they’re down every quarter in sales,” he said. “You can’t cut fast enough to keep up with that kind of deceleration in selling.”
Overall, Linton said Constellation has not been able to translate its past success in beer and liquor into the Canadian cannabis market.
“In Canada, you can’t market cannabis in the same way as beer,” he said. “You can have very strong earned media, which amounts to social-media postings about the brand or press coverage of a brand, or a mention of a brand from a celebrity, but you cannot purchase advertising to promote cannabis.”
Linton also criticized Canopy Growth’s plan to focus on the U.S. market with the creation of Canopy USA.
If a company wants to raise more capital, it’s not helpful to have uncertainty around a stock-market listing on the Nasdaq, he said. Canopy Growth’s declining revenues in Canada and its stock price of under $1 will also make it hard to raise capital by issuing stock or by other means, he said.
Another once-mighty Canadian company, BlackBerry Ltd.
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is still operating partly because it issued stock when the company shares were trading at much higher levels and then held onto its cash for a rainy day — a path that Canopy Growth should have pursued, Linton said.
Sources familiar with Canopy Growth, however, said that the company was disorganized under Linton and that the former executive has not had any internal knowledge of the business in four years.
Linton was building up production in Canada, Africa, Latin America and Asia Pacific that was much greater than needed, the source said, and incoming CEO Klein had to move quickly to scale back and reduce cash burn.
Meanwhile, the Canadian cannabis market grinds on with efforts to address some of the challenges in its regulatory structure.
EY partner El-Cheikh said Canada’s flat excise tax remains problematic because it contributes to making legal products more expensive than illegal cannabis products. There are other issues to resolve as well, along with marketing and promotion restrictions such as potency limits.
This year the Canadian government launched the Cannabis Strategy Table in an effort to review the industry challenges and suggest changes. EY produced a report on the Canadian market summarizing the areas of strength and the areas for development since legalization.
“The blame for the challenges in the Canadian cannabis industry cannot be just attributed to the government. All industry stakeholders have to work together to find a sustainable solution,” El-Cheikh said. “The expectation is that we’ll see policy changes in the future.”
Hawkins from Entourage Effect Capital said Canada will end up being a “decent” cannabis market but will be smaller than most of the larger U.S. states that have already legalized cannabis, such as California.
This is Hawkins’s advice for cannabis companies: “No. 1, don’t count on the U.S. moving quickly on this, and secondly, know your market before you start building things out.”
Smiths Falls residents were not surprised when Canopy Growth moved to shut down operations at 1 Hershey Drive, because it had already been whittling down its workforce there for some time, said town official Crowder.
Canopy Growth is leaving behind a 700,000-square-foot state-of-the art industrial facility and has been approached by interested parties as the town seeks out other businesses to help diversify the local economy, Crowder said.
“We want a sustainable business. This could be one or multiple purchasers or tenants,” Crowder said. “There’s a limited supply of large industrial space in Ontario currently. We’re in a good position.”
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