Fire & Flower is trading at a discount, says ATB Capital

A number of Canadian cannabis companies have their sights set on the expansive market in the United States and are now waiting in anticipation of a shift towards legalization at the US federal level. That includes tech-enabled Canadian retailer Fire & Flower (Fire & Flower Stock Quote, Charts, News, Analysts, Financials TSX:FAF) which just announced new plans for entering the US market. Giving the strategy the once-over is ATB Capital Markets analyst Frederico Gomes who in an update to clients on Monday said the stock is looking attractive at current levels.

On the announcement, made on Monday, FAF said it has amended its option and licensing agreement with private company Fire & Flower US Holdings (formerly American Acres Managers) so that now it will receive a one-time implementation fee and ongoing software and support fees for each FAF-branded store operated by Fire & Flower US, giving FAF the option to acquire the licensee with a discount to fair-market value if and when regulations in the US allow. FAF will pay the shareholders of the Licensee an aggregate amount of US$5 million with the option remaining to pay additional cash amounts which along with a one per cent premium calculated monthly would be deducted from the fair-market value purchase price payable upon exercise of the option by FAF.

“The amendments to our strategic agreements with Fire & Flower US expand the ability for the Fire & Flower and Hifyre brands to open in key markets ahead of federal permissibility of adult-use cannabis in the US. In addition, the technology, software and support fees create an additional high margin revenue channel in our digital business segment,” said Trevor Fencott, CEO of Fire & Flower, in a press release.

FAF, which runs the Hifyre digital retail and analytics platform, says the move into the States will get a leg up through its partnership with strategic investor Alimentation Couche-Tard, owners of Circle K convenience stores throughout Canada and the US.

“The amended strategic agreements, along with our relationship with the owner of Circle K, Alimentation Couche-Tard, will help position Fire & Flower to one day be a key player in the US cannabis industry, where the demand for incorporating technologically advanced systems has never been greater,” said Fencott. “We believe the amendments to the strategic agreement provide a meaningful near and long-term benefit to Fire & Flower shareholders in our option to acquire Fire & Flower US.”

Looking at the amended agreement, Gomes said it allows FAF to put into motion its strategy to enter the US THC market before positive regulatory developments take place.

“In our view, FAF is especially well positioned to take advantage of the US THC market opportunity through its strategic partnership with Alimentation Couche-Tard, which has a strong foothold in the US through Circle K convenience stores,” Gomes wrote. 

Fire & Flower’s share price has been falling steadily over the past 12 months along with the rest of the cannabis sector, shedding about 65 per cent of its value since the highs of last February.

But Gomes is bullish on the stock and with the update has maintained his “Outperform” rating and one-year price target of $15.00, which at the time of publication represented a projected return of 236 per cent.

“We note that FAF is currently trading at a FY2022e EV/Sales of 0.7x which, in our view, offers a discount to the value of Company’s retail operations in Canada and does not price in the value of Hifyre and the option to potentially enter the US THC market,” Gomes wrote.

“Hifyre is an attractive segment hidden inside FAF. As digital sales continue to grow, we believe that the attractiveness and value of this segment as a standalone tech platform will become more apparent to investors. Moreover, we believe that the value of a potential US expansion is not priced into FAF’s current share price, therefore presenting an attractive upside for investors,” he said.

By the numbers, Gomes is forecasting for FAF to generate fiscal 2021 (year end January 28) revenue of $172.8 million compared to $128.1 million delivered in fiscal 2020. On adjusted EBITDA he is calling for fiscal 2021 earnings of $4.4 million compared to a loss of $1.0 million in fiscal 2020. For the upcoming fiscal 2022, Gomes has forecasted $206.7 million in net sales and $11.9 million in adjusted EBITDA. The analyst sees FAF’s adjusted gross margin staying steady across fiscal 2020, 2021 and 2022 at 35 per cent.

Last week, Fire & Flower announced the completion of its acquisition of logistics company Pineapple Express Delivery, the largest player in the cannabis delivery industry with operations for cannabis delivery in Ontario, Manitoba and Saskatchewan and for liquor products in Saskatchewan.

“The acquisition of Pineapple Express Delivery provides Fire & Flower with the final component to execute upon its strategy of offering a full consumer technology platform to the cannabis industry,” Fire & Flower said in a January 25 press release.