Nova Cannabis is our pick in cannabis retail, says ATB

ATB Capital Markets analyst Frederico Gomes delivered an update to clients on Wednesday on Canadian cannabis retailer Nova Cannabis (Nova Cannabis Stock Quote, Charts, News, Analysts, Financials TSX:NOVC), saying the company is showing strong sales and earnings momentum. Gomes said rather than buying the producers, cannabis retailers present the better opportunity for investors, with Nova being one of their top picks in the space.

Edmonton-based Nova Cannabis, a cannabis retailer operating the Value Buds banner of stores in Alberta, Ontario and Saskatchewan, is a $41-million market cap company whose share price has slumped with the rest of the cannabis space over the past year. NOVC went from around the $4.25 per share mark in September, 2021, to as low as $0.53 by July of this year, while the stock has since been trading between $0.50 and $1.00.

But Gomes sees plenty of upside from here, maintaining a “Speculative Buy” rating and $2.00 target price on NOVC, which at the time of his report’s publication represented a projected one-year return of 178 per cent.

Gomes said Nova comes with positive sales and earnings momentum and “a highly attractive valuation,” with the company recording a beat of his sales and adjusted EBITDA estimates in its most recent quarter, Nova’s second quarter 2022, delivered in August. 

Gomes said that Nova, with a store count at 82 and majority-owned by liquor retailer Alcanna, has the highest annual sales per store at $2.8 million of any publicly traded cannabis retailer in Canada, showing consistent sales-per-store growth (about eight per cent sequentially in its Q2) and market share gains (going from 3.2 per cent in Q2 2021 to 5.1 per cent in Q2 2022).

“In our view, NOVC is poised to benefit from operating leverage as its revenue base scales (driven by new store openings) and management keeps costs in check (SG&A as a percentage of sales dropped to 14.5 per cent in Q2/22 from 18.5 in Q1/22). As the retail market consolidates, we believe NOVC has the necessary access to capital to support its growth trajectory, with $6.2 million of cash on hand, a $20 million at-the-market equity program and $6.3 million available under its extended credit facility with SNDL Inc,” Gomes wrote.

Gomes said he expects Nova Cannabis to accelerate its retail expansion both organically and through acquisition, with Ontario being a key focus and with 88 stores as its year-end goal.

“NOVC is also positioned to continue expanding sales per store, in our view, particularly as competitive and pricing pressures soften. We believe accelerated consolidation in the retail space, positive regulatory development, and margin expansion could serve as catalysts for the stock,” Gomes said.

As for the stock, Gomes noted that Nova is currently trading at about an 85 per cent discount to its 52-week high. On valuation comparisons, he estimated NOVC to be trading at about a 14 per cent discount to its retail cannabis peers and at a huge 80 per cent discount to the group of cannabis licensed producers in Canada. Gomes also called Nova’s 2023 EV/EBITDA multiple of 5.7x “highly attractive.”

“We think there is more visibility into the winners in the retail space, as consolidation is already occurring with smaller retailers exiting the industry. Retailers trade at a ~75 per cent discount to LPs on FY2022e EV/Sales multiples; we believe this discount is unwarranted, as retailers offer a more compelling risk-reward due to the added visibility into their growth and profitability outlook,” Gomes said.

On Nova’s second quarter 2022 results, the company generated $56.3 million in sales, up 90 per cent year-over-year, and gross margin of $10.6 million or 19 per cent of sales, up 105 per cent year-over-year. The Q2 net loss was $1.4 million compared to a loss of $7.0 million a year earlier, with the better result coming from increases in sales and gross margin. On its expansion, the company said it opened 29 retail stores over the previous five quarters.

“The performance of our Value Buds stores continues to outpace the growth of the industry as we reported record sales for the second quarter of 2022, underpinned by equally strong sales and gross margin growth that is driving greater operating leverage to the bottom line,” said Marcie Kiziak, CEO, in Nova’s second quarter press release.

Looking ahead, Gomes is expecting Nova Cannabis to generate third quarter 2022 sales and adjusted EBITDA of $57.4 million and $1.7 million, respectively. For the full 2022 year, he is calling for $226.3 million in sales and $5.8 million in EBITDA, while for 2023 he is forecasting $339.8 million in sales and $27.2 million in EBITDA.