High Tide becoming the Costco of cannabis, ATB Capital says

ATB Capital Markets analyst Frederico Gomes believes High Tide (High Tide Stock Quote, Charts, News, Analysts, Financials TSXV:HITI) may be ready to turn the tide on its competition, maintaining an “Outperform” rating and target price of $14.00/share for a projected return of 89.7 per cent in an update to clients on Wednesday.

Founded in 2009 and headquartered in Calgary, High Tide operates as a vertically-integrated company in the cannabis market in Canada, the United States and internationally. It engages in the design, manufacture and distribution of smoking accessories and cannabis lifestyle products and is also involved in the wholesale and retailing of cannabis products, as well as operates and franchises licensed retail cannabis stores.

Gomes’s latest analysis comes after High Tide announced that it would be transitioning all of its Canna Cabana stores in Canada to a discount club retail model, with Gomes noting that the move positions the brand as a Canadian cannabis Costco.

“We view a discount club as a way for HITI to capture market share and differentiate itself from other retailers while building customer loyalty and brand equity,” Gomes said. “We note, however, that this model would have to be adapted to the unique circumstances of the Canadian cannabis market, therefore carrying uncertainty and execution risks.”

Gomes notes that the company will offer its Cabana Club members, which currently number over 245,000, access to lower prices and exclusive deals, such as proprietary accessories from its product lines. Though the company currently offers free memberships, High Tide is planning to implement a membership fee and subscription-based box model in the future as regulations permit, discontinuing wholesale sales of proprietary accessories in Canada, while proprietary consumption accessories will only be available in Canada in the company’s own stores.

High Tide has seen encouraging progress from a pair of pilot projects, which began in mid-April, that resulted in a 184 per cent increase on accessories sales, 76 to 100 per cent increase on THC product sales, and 272 per cent new signups for the Cabana Club.

“While other retailers have made moves to service the value segment, our strategy sets us apart as the only retailer in Canada which will have a discount club loyalty plan,” said Raj Grover, President and Chief Executive Officer of High Tide in the company’s October 20 press release. “Today’s news represents an acceleration of our value-focused strategy, which was initially planned to be rolled out under the Cannabis Chop Club brand in select locations only. By expanding this strategy across all of our retail stores instead, we can focus on continuing to build the Canna Cabana brand and its rapidly-growing base of over 245,000 members, and grow our strong brand equity, while saving time, capital and resources by avoiding conversions of existing locations.”

The company’s most recent quarterly financials were released on September 14, headlined by $48.1 million in revenue to fall in line with the ATB projection of $47.6 million and the consensus estimate of $46.5 million. The company also posted a gross margin of 34.7 per cent with gross profit of $16.7 million compared to the ATB projection of $16.6 million and the consensus view of $15.9 million, while adjusted EBITDA missed expectations at $1.5 million (ATB projected $4.9 million, and the consensus projected $3.9 million) on account of higher operating expenses associated with listing on NASDAQ.

Overall, Gomes expects the company to take significant steps forward financially on an annual basis, with the 2021 revenue projection of $177.2 million representing a potential year-over-year increase of 118 per cent, with 2022 figuring to be even more prosperous at a projection of $262.9 million, marking a potential year-over-year increase of 48.4 per cent.

The adjusted EBITDA projections see a steeper upward climb, with Gomes projecting $11 million in adjusted EBITDA and a 6.2 per cent margin for 2021 before jumping to a projected $25.1 million in 2022, representing a margin of 9.5 per cent.

Gomes believes that, in order for the company’s pivot to be successful, it will need to have a similar ‘shared economies of scale’ model to Costco, which would strengthen the low-cost advantage.

“We note that, for this strategy to work, the retailer needs to compete on price, have significant bargaining power over suppliers, operate efficiently (e.g. larger locations with low CapEx and lease costs), and offer exclusive deals (e.g. exclusive products, differentiated packaging),” Gomes said. “We believe that HITI has some of these elements (e.g. proprietary accessories), but will need to adapt others (e.g. the Company’s bargaining power is limited due to the provincial distribution model) for this strategy to be successful.”

Overall, High Tide’s stock price has risen 87.7 per cent over the course of the year, reaching a high point of $15.00/share on February 9.