Cresco Labs new deal with Origin House is a positive: GMP

An updated deal between Cresco Labs(Cresco Labs Stock Quote, Chart, News CSE:CL) and Origin House (Origin House Stock Quote, Chart, News CSE:OH) is a positive for the former’s shareholders, says GMP Securities analyst Robert Fagan.

This morning, Cresco and Origin House announced an amendment to its previously announced merger deal. The new deal will see the share exchange ratio reduced and will see Origin House complete an equity financing that is already fully-subscribed.

“This is a transformational deal, which will significantly accelerate Cresco Labs’ growth in California, while providing a launch pad for the combined company to develop and distribute best-in-class brands across the country,” Cresco CEO Charlie Bachtell said. “We are very pleased that our groups were able to mutually develop elegant solutions enabling this very important transaction to progress toward closing. Origin House has successfully built the premier cannabis distribution platform (Continuum) in one of the largest cannabis markets in the world. Distribution in California is of utmost importance and a material position in the California market is a requirement for a cannabis industry leader. In addition, Origin House’s cultivation assets, FloraCal Farms and Cub City, are world class and not only give Cresco Labs access to ultrapremium indoor cannabis for the California market, with quality and yields per square foot rarely seen in this industry, but bring access to a leadership team and cultivation system that will materially increase yields and quality standards across the rest of Cresco Labs’ national footprint.”

Fagan says these new terms mean a stronger balance sheet for Cresco Labs and a lower valuation paid.

“At the time of the initial announcement in April, CL had agreed to purchase OH at an EV of ~$800m, which subsequently fell to ~$430m as of yesterday’s close, alongside CL’s share price decline. Under the amended terms, and pro-forma OH’s equity financing, we estimate CL is now acquiring OH at an EV of ~$370m, implying a reduction of ~14% from yesterday’s already reduced levels. As a result, we derive the valuation multiple implied for OH under the new terms at ~5.8x EV/lastquarter-annualized (LQA) sales, a roughly 1x turn reduction from the ~6.8x EV/LQA sales multiple implied for the transaction before the amendment. We note this still represents a 30%+ premium to OH’s share price (as of yesterday’s close), hence we believe OH shareholders could remain satisfied with the new terms, while CL would be set to acquire OH at a slightly improved valuation, representing a win-win proposition for all parties, in our view.

In a research “Flash” Update to clients today, Fagan maintained his “Buy” rating and one-year price target of $21.50 on Cresco Labs, implying a return of 172.5 per cent at the time of publication.

“On balance, we consider the amended terms for the OH transaction as favorable for both companies and despite a slightly longer closing timeline than previously expected, we view the increased visibility offered for this strategic acquisition as providing an overall positive readthrough for CL,” the analyst added.