TerrAscend gets new, higher price target at Clarus Securities

This year has been transformative for the US operations of cannabis company TerrAscend (TerrAscend Stock Quote, Chart, News, Analysts CSE:TER), says Clarus Securities analyst Noel Atkinson, who delivered an update to clients on Monday.

Atkinson said the US cannabis market remains very attractive for investors and that TerrAscend has potential to significantly expand its retail footprint in key states of California and Pennsylvania.

TerrAscend, a US multi-state operator (MSO) with assets including the Apothecarium retail chain in California, vertically-integrated businesses in Pennsylvania and New Jersey as well as a production facility and license in Mississauga, Ontario, announced on Friday the closing of a US$120-million four-year term loan at an interest rate of 12.875 per cent. The loan is solely secured by the company’s Pennsylvania-based Ilera Healthcare Division subsidiary, which was acquired in September 2019 and is currently the largest contributor to TerrAscend’s revenue.

The company said the non-dilutive financing along with cash on hand will be sufficient to fund the estimated $183-million all-cash earnout due to Ilera sellers in the first half of 2021. (All figures in Canadian dollars except where noted otherwise.)

“Pennsylvania is a very attractive limited license state, and we have a leadership position with Ilera. I am very proud of the Ilera team and how they have executed and delivered. This financing demonstrates the Company’s ability to access the capital markets, with favorable terms for our industry, based on strong fundamentals,” said Jason Ackerman, Executive Chairman and CEO of TerrAscend, in a press release.

On the funding event, Atkinson said it should provide significant comfort to investors.

“The term loan also has a US$30 million accordion feature, which may prove useful if TER moves forward with acquisitions of additional dispensaries in Pennsylvania,” Atkinson wrote.

“We had assumed JW Asset Management (headed by TER Chairman Jason Wild) would backstop any funding needed to ensure the Ilera earnout was completed. We had assumed JWAM would provide $185 million at a ten-per-cent interest rate and require some principal amortization, so this new term loan is a bit smaller and a bit higher interest rate than our forecast but provides more financial flexibility,” Atkinson said. “We now assume TER spends US$40 million (the US$30-million accordion plus US$10 million in cash on hand) to acquire three dispensaries in PA at the start of 2022.”

With the update, Atkinson has maintained his “Buy” rating while increasing his target price from $12.75 to $13.50, which at press time represented a projected 12-month return of 4.2 per cent.

On the cannabis market, Atkinson said he believes there is still a structural valuation discrepancy between US MSOs and larger Canadian licensed producers, related to the differing respective federal status of cannabis in the US and Canada and the corresponding US cannabis investment restrictions on buy-side investors. The analyst also pointed to easier access currently available to large Canadian LPs given their listing on the TSX and TSXV and several cross-listings on US exchanges along with the fact that the large Canadian LPs are currently acting as proxies for the global cannabis sector overall due to the investment in these companies by international tobacco and/or alcohol companies where the expectation is that these LPs will become global players, with US MSOs remaining more focused on US operations.

At the same time, Atkinson contends that the US market remains attractive to investors for a number of reasons. First, it represents a much larger market opportunity, potentially being worth US$50-100 billion per year upon federal legalization or STATES Act implementation. On that point, Atkinson noted that TerrAscend already has one of the leading market shares for its segment in two large states (California (retail) and Pennsylvania), with a “meaningful market share” in New Jersey starting in 2021.

US operators are also poised for many years of steep revenue growth, Atkinson said, of between five and ten years, with profit margins, particularly for vertically-integrated operators in limited-license states, “far above” what are being achieved in Canada. On that note, Atkinson said he expects TerrAscend to continue pursuing expansion and acquisition plans in the US.

As well, Atkinson said once the US regulatory and legal environment is positively changed, US companies will become prime takeout targets for the TSX and US-listed Canadian LPs, with TerrAscend firmly fitting in that category of target companies.

“US cannabis multi-state operator stocks have performed well so far in H2/20. The MSO sector overall continues to show strong organic revenue growth and the larger MSOs are now generating substantial Adj. EBITDA margins,” Atkinson wrote.

“TerrAscend is a prime example, as it increased revenues organically from C$25.9 million in Q4/19 to C$51.0 million in Q3/20 and we continue to expect C$63.1 million of revenues in Q4/2020 (which would represent a 144-per-cent year-over-year growth). Moreover, TerrAscend has achieved impressive economies of scale as it has expanded revenues, quickly boosting its Adj. EBITDA margin from -22 per cent in Q4/19 to 35 per cent in Q3/20.”

Looking ahead, Atkinson thinks TER will generate full calendar 2020 revenue and adjusted EBITDA of $196.1 million and $54.3 million, respectively, 2021 revenue and EBITDA of $366.2 million and $141.6 million, respectively, and 2022 revenue and EBITDA of $523.0 million and $207.7 million, respectively.