Description

Alcanna (f.k.a. Liquor Stores N.A. Ltd.) - One of the largest private sector retailers of alcohol (254 stores) in North America and the largest in Canada, which includes a growing cannabis store division (30 stores).

Risk/Reward: Downside risk -7.2% to $3.71/sh vs. Upside reward +123.3% to $8.93/sh (6x EBITDA in both scenarios).

CLIQ’s share price reflects a trough valuation for the liquor business with no value ascribed for any growth opportunities – cannabis division (Nova Cannabis) or opening of the Ontario alcohol market to private sector players.

 The retail liquor store industry in Alberta, British Columbia and Alaska is a fragmented market.  Alcanna operates some of the leading liquor retail brands in its respective markets. The Company’s major brands are:

• Liquor Depot – Convenience-focused stores located in Alberta and British Columbia, focused on convenient locations and store layouts, and a large selection at competitive prices

• Wine and Beyond – Destination/large-format stores located in the Alberta that are dedicated to having a large selection of wine, spirits and beer and strong customer service

• Brown Jug – Convenience-focused stores located in the Alaska, focused on convenient locations and store layouts, and a large selection at competitive prices

• Ace Liquor – Convenience-focused stores located in the Province of Alberta, focused on value and the discount segment of the market

Alcanna represents a low risk contrarian opportunity, as the cannabis industry has been decimated (Marijuana Index down 42.9% in 2019) due to disastrous financial results (slow revenue growth and negative cash flow), lack of funding/capital constraints, and mismanagement/capital destruction at numerous companies including: Aurora, Aphria, CannTrust, Canopy, etc.

Alcanna’s liquor business more than supports the current share price (6x Liquor EBITDA, $5.46/sh).  Alcanna trades for 3.7x ’21 EBITDA and 2.6x Steady State EBITDA vs. Historical 3/5/10 year FY+1 EBITDA multiple of 11.5x/10.7x/10.5x.  There is a free call option on Cannabis, which is worth ~$2.99 based on 6x ’21 Cannabis EBITDA of $42.9m.

Alcanna has gone through a significant transformation in the past 3 years

CLIQ’s management/board that joined in mid-August 2017 have not yet gained execution credibility and recognition of their 3+ year strategy: 1) divestiture of non-core U.S. assets with a reduction in overhead cost cuts 2) refresh the core-liquor business, and ERP implementation 3) thoughtful store rollout in the cannabis division

• June 2017: PointNorth won proxy contest (3 board members appointed out of 6), including James Burns, current Alcanna CEO and Vice Chair (0.7% share ownership) and PointNorth (6.9% share ownership)

• November 2017: CLIQ divested non-core U.S. liquor store base (Kentucky, New Jersey), for upfront proceeds of $43mm to refocus on core markets of Alberta, B.C. and Alaska

• Reduction of LT debt levels by up to $47m, peak leverage of 4.1x Debt/EBITDA in 2017

• February 2018: Aurora Cannabis completed a $103.5m strategic investment to develop a Western Canadian retail cannabis business, 19.9% ownership in CLIQ, with the ability to increase stake to 40%

• November 2018: Formed Canadian Liquor Retailers Alliance (discount liquor partnership), with Ace Liquor’s 15 stores and 50 Alcanna’s stores, stores were converted to the “Ace Liquor Discounter” brand.  The partnership was run by Tank Vander, CEO of Ace. Ownership of the partnership units were 71% Alcanna and 29% Ace

• December 2018: Alcanna terminated quarterly cash dividend ($0.09 per quarter, ~$13.5m retained annually)

• “The Company has embarked on a capital-intensive growth strategy over the next 2-3 years.  Capital will be invested in as many as 10 new Wine and Beyond stores in Alberta and possibly elsewhere, building out Nova Cannabis stores, funding the initial launch of the Canadian Liquor Retailers Alliance, as well as completion of the ERP and potential future acquisitions.  The Company believes that it is in the best interests of the shareholders to invest all free cash flow in the growth opportunities available to the business which is expected to result in an increase in shareholder value over the medium term versus continuing dividend payments” – Press Release, December 13, 2018.

• May 2019: Alcanna subsidiary, Canadian Liquor Retailers Alliance Limited Partnership (“Alliance”) acquired 28 Solo Liquor Stores (+3 leases), trademarks/brands  for $12.4m (inventory $3.4m), valued at 2.5x FY’17 EBITDA

• Alcanna and the Alliance analysed 90 Solo locations and selected the 28 operating stores and 3 leases which best fit the existing network of Ace and Liquor Depot stores

• 22 stores were open in FY 2017, total sales of $84.5 million and $5.8 million of 4-wall EBITDA

• May 2019: Alcanna announces new 3 year revolving credit facility, new senior secured $70m asset-based revolving credit facility (Prime + 0%), and uncommitted $15m expansion feature

• “Not being tied to cash flow covenants and other tests allows Alcanna to invest in areas which will provide the best medium to long term return for shareholders versus having to accommodate short-term targets.  The Company plans to use the Credit Facility to: finance investments in new Wine and Beyond stores in Alberta, BC and Ontario if the Ontario government’s reform of liquor retail so permits; continue to build out Nova Cannabis locations in Alberta, Ontario and BC as cannabis supply improves and licenses are again made available; finalize the renovation and upgrade of Liquor Depot stores in Alberta and BC and Brown Jug stores in Alaska; provide financing to the Canadian Liquor Retailers Alliance to fund its growth and expansion as the leading discount retailer in Alberta; and for general corporate and working capital purposes.” – Press Release, May 1, 2019.

• December 2019: Alcanna announces Ontario cannabis retail plans

• “Subject to getting the right real estate, Alcanna is targeting 10 Nova Cannabis stores in Ontario by August 31, 2020 and another 10-15 by year end. We anticipate getting to the limit of 30 before September 2021 and pursuing additional stores up to the 75 maximum as market conditions and site opportunities arise. Unlike poorly capitalised competitors, Alcanna has the financial capacity to build out the Ontario market without needing to access capital markets. And that same financial strength gives us the edge - as always - with quality landlords to secure the best sites because they can be assured of the rent being paid for the full duration of the lease,” Mr. Burns said. “Nova Cannabis Queen Street West has shown that allowing retailers with experience is the key to long term consumer acceptance of legal cannabis and the demise of the black market. Nova will continue to take the lead in making this happen in Ontario.” – Press Release, December 13, 2019.

• January 2020: Alcanna changes Liquor division management and reorganizes Corporate structure by purchasing the Canadian Liquor Retailers Alliance interest from Ace Liquor

• Ace Liquor management sold their 29% stake in exchange for 2.927m shares in Alcanna, the  transaction valued at $13 million with a share price of $4.44/sh;

• Former CEO of Ace Liquor Taranvir (Tank) Vander will be President of Liquor, responsible for the operations of all Alcanna liquor brands

Improvement in Run-Rate Liquor Earnings and Less Noise

The past 3 years have been noisy and do not represent the normalized run-rate for the existing standalone liquor business.  The following reasons include: start-up spending on the cannabis business (now broken out in its own business segment), gross margin (store refresh and clearance of excess inventory during store renovations), same store sale  weakness due to aggressive/irrational pricing from competition (Solo Liquor), and macro headwinds in Alberta (province is reliant on oil and commodities).

Alcanna entered the discount liquor market in 2018 with its own banner, “Deep Discount Liquor” in Alberta.  This response was in reaction to intense competition that had emerged in recent years by smaller peers operating a thin margin model that caused store traffic losses.  Alcanna’s 10 discount banner stores opened in Q2’18 and had positive results with same store sales growth at those 10 locations at 70% in Q2’18 and 110% in Q3’18. The intended impact on peers was evident when Ace Liquor capitulated to Alcanna (sold their Alberta stores into the Canadian Liquor Retailers Alliance, which gave it control of Ace Liquor with no premium paid).  On January 14, 2019, Ace Liquor joined the Alliance with the acquisition of 12 opened and 3 unopened stores from Ace or 29% partnership interest in the Alliance. Alcanna had previously contributed 50 stores to the Alliance.

FY’18 Liquor EBITDA margin was 4.6%, every 1% improvement in EBITDA margin is ~$8mm of Liquor EBITDA.  Management has mentioned liquor LT EBITDA margins should be above 8%, post investment in ERP, rebranding, etc.

Valuation

There is a margin of safety given 6x EBITDA multiple is applied, the market may revalue Alcanna in the future to past multiples of 10x+ EBITDA.  Downside is limited, assuming that Cannabis is EBITDA neutral and there is improvement in the Liquor EBITDA margins to 10%. The liquor business alone is worth $5.46/sh, even when including corporate costs.

Opening of Ontario Liquor Market to Private Sector Players

In mid-October 2018, the Ontario government (Progressive Conservative) detailed their interest to “look at ways to provide more choice and access to consumers, including expanding the sale of beer and wine to corner stores and box stores”.  In May 2019, Ken Hughes, Ontario Special Advisor for the Beverage Alcohol Review submitted a report “The Case for Change: Increasing Choice and Expanding Opportunity in Ontario’s Alcohol Sector” to the Minister of Finance. If permitted, Alcanna plans on entering Ontario with its large format Wine & Beyond stores that would be unique to the Ontario market.  The Company is well advanced with planning and could open stores within 3 to 5 months of the regulatory shift.

Alcanna has identified 75 locations in Ontario for a Wine & Beyond location, the capital spend woud be $3.5-4.5m (capex and inventory).  Alcanna could open ~25 Wine & Beyond locations in Ontario. “Wine and Beyond” stores are very similar in concept to “Total Wine & More” which operate in the US. 

o 20,000 sq ft with 14,000 SKUs and do $10mm in annual revenue (4x the revenue of a Liquor Depot and 5-6x the EBITDA)

Quantifying the Cannabis Opportunity

As of October 17, 2018, recreational cannabis in Canada was federally legalized.  While some provinces currently own/operate retail (brick & mortar and/or retail) and supply chain, there are changes that will allow many consumers to be serviced by private sector storefronts.  The pace of retail openings has progressed slower than expected due to supply issues at the wholesale end of the supply chain through 2018-2019, but this should change through 2020.

This is a top-down forecast for steady-state EBITDA that Alcanna can generate from the cannabis retailing business in Alberta, B.C., and Ontario.  $42.9m run-rate EBITDA could occur by 2022 and is incremental to liquor-only forecast. Each 1% market share in Ontario could equate to $3.0m of incremental EBITDA.

Alcanna is targeting 10 Nova Cannabis stores in Ontario by August 31, 2020 and another 10-15 by year end.  There could be 75 stores open by 30 before September 2021, as market conditions and site opportunities arise.

The Toronto store does $450K+ per week in sales, the Alberta stores are closer to $150K+ per week.

Background on Cannabis Retail Market

Alberta

The Alberta Gaming, Liquor and Cannabis (ALGC) agency has issued 415 cannabis retail store licences in Alberta as of February 7, 2020.  The maximum number of stores that any one entity could apply for is set at 42 until December 31, 2020 and not control more than 15% of the total number of cannabis licences in Alberta.  Cannabis sales are not allowed to be co-located with alcohol sales.

Link: 

https://aglc.ca/cannabis/commonly-asked-questions

https://aglc.ca/cannabis/retail-cannabis/cannabis-licensee-search

British Columbia (B.C.)

The B.C. Liquor Distribution Branch (BCLDB) operates its own B.C. Cannabis Store shops and online sales, as well as wholesaling cannabis from licensed producers across the country to private retailers.  The province has an 8 store limit on licensees. BCLDB has issued 191 cannabis retail store licenses, and 16 public stores (12 BC Cannabis Stores are open).

Link: 

https://justice.gov.bc.ca/cannabislicensing/map

Ontario

The Alcohol and Gaming Commission of Ontario (AGCO), the regulatory body in charge of the cannabis retail system will begin accepting operator licence applications from prospective retailers on Jan. 6, 2020, followed by store authorization applications on March 2, 2020.  Store authorizations will be issued starting in April, at a rate of approximately 20 a month, similar to the pace in which Alberta awards cannabis store licences. By the end of 2020, there could be close to 250 stores across the province versus the current 24 stores in the market.

Link:

https://business.financialpost.com/cannabis/cannabis-business/ontario-to-open-up-cannabis-retail-system-starting-in-january

Potential Privatization of Ontario Cannabis Retail Corporation (OCRC)

The OCRC operates as the Ontario Cannabis Store (OCS), a Crown corporation mandated by the Government of Ontario to operate the only legal online recreational cannabis store and serve as the wholesale distributor to licensed, privately-operated brick-and-mortar cannabis stores.

The Ontario Cannabis Store is moving towards a “hybrid” wholesale model that will allow the private sector to be involved in storing and distributing cannabis.  Throughout 2019 have been supply-chain issues between producers, through the middle-man OCS and private retailers. Recreational cannabis was legalized on October 17, 2018; the OCS had 42mm in net incomes losses in Fiscal 2018 (FY ending March 31, 2019).

Link: https://www.doingbusinesswithocs.ca/wp-content/uploads/2019/08/OCRC-2018-19-AUDITED-FINANCIAL-STATEMENTS-ENG.pdf

Data Points and information from Publicly-traded Cannabis Retailers

Alcanna ex-Toronto Queens St. store ($400-$500K weekly sales), annualized sales per store is ~$2.5mm. 

Tilray investment of $110 for six locations of FOUR20 (including 16 additional planned locations) in Alberta

- C$70m in Tilray Class 2 stock, and additional $40m subject to performance milestones

Link: https://ir.tilray.com/news-releases/news-release-details/tilray-announces-definitive-agreement-acquire-four20-adult-use

Alimentation Couche‐Tard strategic investment in Fire & Flower

Link:
https://www.newswire.ca/news-releases/four20-premium-markets-tm-reaches-5-million-in-sales-804834214.html

Licensee Diligence

Link:

https://aglc.ca/cannabis/retail-cannabis/cannabis-licensee-search

Overhang on stock due to Aurora Cannabis potential block

Aurora Cannabis (ACB) holds 9.2mm shares of Alcanna, ~80x average daily volume.  The CEO of ACB resigned on February 7, 2020, new management may look to monetize non-core assets, a block trade of CLIQ could occur at a discount to the market price.  Of note, Aurora has a $10m 8.75% convertible debenture investment (convertible at $0.75/sh) in High Tide, another cannabis retailer has ~30 stores across Alberta and Ontario.

On February 5, 2018 - Aurora agreed to make a private placement investment in Liquor Stores N.A. Ltd. to launch a leading brand of cannabis retail outlets. The placement was structured in two phases, with an initial investment of $103.5m for 19.9% ownership in LIQ and additional investments that could increase Aurora’s stake to 40%.

The initial $103.5m investment consisted of Aurora subscribing for 6.9m common shares at $15.00/sh, which did not require shareholder approval and closed on February 14, 2018.  The additional investment consists of (1) 2.3mm subscription receipts (converted, on a one-for-one basis into shares) at $15.00 for proceeds of $34.5m (25% ownership pro forma) which required shareholder approval, (2) 10.13m share purchase warrants at an exercise price of $15.75/sh to allow Aurora to increase ownership to 40%, and (3) up to 1.75m warrants exercisable at $15.00/sh upon any conversion of the outstanding 4.70% convertible subordinated debentures (allowing Aurora to maintain its equity interest).

Link:

https://www.newswire.ca/news-releases/aurora-cannabis-and-liquor-stores-na-complete-strategic-investment-to-develop-western-canadian-retail-cannabis-business-674070433.html

https://www.newswire.ca/news-releases/aurora-cannabis-increases-stake-in-alcanna-formerly-liquor-stores-na-682262311.html

Catalyst

Q4'19 Earnings

More updates regarding Ontario store rollouts

M&A

Aurora sells their stake