Consolidation will be the name of the game in Canada’s cannabis retail space, according to analyst Frederico Gomes of ATB Capital Markets, who says Fire & Flower (Fire and Flower Stock Quote, Chart, News TSX:FAF) is well positioned to take advantage. In a Tuesday update to clients, Gomes maintained an “Outperform” rating on FAF but slashed his target price from $15/share to $9/share for a one-year projected return of 150 per cent.
Founded in 2017 and headquartered in Toronto, Fire & Flower Holdings is an independent retailer of cannabis products and accessories through its 83 locations in Alberta, Manitoba, Ontario, Yukon and Saskatchewan, where the company also engages in the wholesale of regulated cannabis products and accessories.
The latest analysis from Gomes comes after Fire & Flower released its fourth quarter and year-end financial results for the 2021 fiscal year, with Gomes noting multiple categories where FAF came in below expectations. The Q4 numbers were headlined by $42.7 million in revenue for a six per cent sequential drop, which slightly missed in relation to the ATB estimate of $44.3 million, as well as the consensus target of $46 million. Gross profit came in at $13.7 million, in line with the ATB expectation of $13.5 million while being off in relation to the consensus target of $15.8 million, and the resulting gross margin of 32.1 per cent was slightly ahead of the ATB estimate of 30.4 per cent while being behind the consensus estimate of 34.3 per cent. Meanwhile, Fire & Flower posted an adjusted EBITDA loss of $2.4 million in the quarter, a contrast to the ATB estimate of $1.3 million and the consensus projection of $0.8 million.
“In the fourth quarter of fiscal 2021, while we have continued to see growth in our Hifyre digital business segment, we saw a decline in our retail revenue due to increased competitive pressures within the Canadian cannabis retail landscape,” said Trevor Fencott, Chief Executive Officer of Fire & Flower in the company’s April 26 press release.
“As we look out to fiscal 2022, we anticipate continued growth in our digital business and driving further revenue opportunities in the U.S. We look forward to greater continued alignment with our partners at Alimentation Couche-Tard through the retail store co-location program which will be important in delivering a clear, convenience-oriented value proposition to our customers in brick-and-mortar retail and e-commerce,” Fencott said.
On account of lower store sales in Canada, a revised store opening timeline, and a more conservative growth outlook in the wholesale and digital segments, Gomes has lowered a number of his financial projections.
After Fire & Flower finished the 2021 fiscal year at $175.5 million in revenue, Gomes lowered his 2022 revenue projection from $203.5 million to $189.6 million for a potential year-over-year increase of eight per cent. Looking ahead to 2023, Gomes made a minimal adjustment to reduce his estimate from $275 million to $274.7 million, suggesting a year-over-year increase of 44.9 per cent.
From a valuation standpoint, Gomes forecasts Fire & Flower’s EV/Sales multiple to drop from 1.1x in 2020 to 0.8x after 2021, remaining at that level for 2022 to come in right at the Canadian retailer average.
Gomes has also made some adjustments to other items in his financials, lowering his adjusted gross profit estimate for 2022 from $61.8 million (30.4 per cent margin) to $47.3 million and a 25 per cent margin. For 2023, Gomes lowered his projection from $100.1 million (36.4 per cent margin) to $77.8 million and a 28.3 per cent margin, with the changes coming on account of lower margins in the retail and digital segments, as well as a change in sales mix, with lower contribution from the digital segment.
Meanwhile, on account of a smaller gross profit pool and higher operating expenses, Gomes also lowered his adjusted EBITDA estimates, shifting his 2022 projection from a $10.8 million positive with a 5.3 per cent margin to a loss of $19.6 million, with a much smaller positive turn expected in 2023 at $15.2 million and a 5.5 per cent margin instead of $37.8 million and a 13.7 per cent margin.
“In our view, competitive pressures in the retail sector will start to ease in H2/FY22 as mom-and-pop stores close doors due to their difficulty in accessing capital, leading to a gradual pickup in sales per store and margins,” Gomes said. “We expect FAF to continue opening new stores, and we forecast the Company will end FY2022 with 115 stores operating in Canada (from 101 currently). We believe the pace of openings could accelerate as the Circle-K co-location program picks up steam.”
“Our sector thesis is that consolidation will occur over the next 12-18 months and larger retailers stand to benefit. FAF is well- positioned due to its scale, digital capabilities, and partnership with Alimentation Couche-Tard. However, we are trimming our estimates to reflect challenging market conditions and the dilutive impact of ATD’s warrants,” he said.
Fire & Flower’s share price has fallen off by 29.1 per cent since the start of 2022, unable to sustain early momentum after reaching a 2022 high of $6.04/share on March 25. The stock took a tumble since then, though it has rebounded slightly after closing Wednesday at a 2022 low point of $3.23/share.