Aleafia deal undervalues Emblem Corp, GMP Securities says

Bigger isn’t always better, especially in the case of cannabis licensed producer Emblem Corp (TSXV:EMC), according to GMP Securities analyst Martin Landry, who has a number of issues with the recently-announced acquisition of Emblem by another mid-tier cannabis producer (and cannabis clinic operator) Aleafia Health Inc. (TSXV:ALEF).

The friendly transaction will be an all-stock deal valued at $173 million by which Aleafia will issue 0.8377 shares for each share of Emblem, representing a purchase price of $1.21, a 27-per-cent premium to Emblem’s closing price of $0.95. A shareholder meeting will occur before March 8, 2019, to vote on the transaction.

In an equity research update to clients on Thursday, Landry argues that the deal undervalues Emblem, stating: (1) EMC’s EV/forward sales multiple is estimated at about 1.5x lower than the average multiple of 3-5x forward sales seen in the sector; (2) the takeout price represents about a five per cent premium to EMC’s 30-day volume weighted average price, which is lower than the more common premium of about 30 per cent; and (3) EMC doesn’t show any signs of having operational or financial issues that could have weakened its bargaining power.

As a result, Landry says, “While we acknowledge that large licensed producers benefit from a substantial valuation premium to peers, we are not convinced that a combination with Aleafia will help to narrow that gap. Further, we struggle to see what Aleafia brings to the table that Emblem was missing. While there will be synergies in combining both companies, they have not been quantified. Hence, we are puzzled by the decision of Emblem’s BOD to choose the Aleafia takeover as the best alternative given that it could
have achieved similar results on its own.”

Landry thus reiterates his “Buy” rating rather than putting forward a “Tender” rating but has decreased his target price for EMC from $2.75 to $2.00, due to both a higher discount rate reflecting the company’s smaller size and recent cannabis sector re-rating. His target represents a 100 per cent projected return at the time of publication.

The analyst predicts that support for the deal among shareholders will likely be mixed and, further, that other potential bidders for Emblem may now take a look at the company.