Description

Trulieve (CSE: TRUL / OTC: TCNNF)

Pitch: As the clear market share leader in the Florida medical cannabis market, Trulieve is poised to beat consensus expectations for revenue growth of ~75% per annum over the 2018 to 2021 period and for >40% EBITDA margins, yet trades at less than 6x 2020 EBITDA vs. US comps at 8-12x and Canadian comps at 12-20x. Unlike the vast majority of cannabis companies which have attempted to enter as many markets as possible to capture future optionality, Trulieve has built a high ROIC operation in the leading medical cannabis state and taken a methodical approach to new market entrance. With a net cash balance sheet, access to debt, and already generating positive cash flow from operations, Trulieve is poised to capitalize on the eventual opening of the recreational cannabis market in Florida as well as enter new US markets as appropriate – in aggregate, this represents a greater than $80BN opportunity. The companies perception as a “one-state operator”, low trading liquidity and the general lack of access to traditional capital pools is driving the discounted valuation. We believe that both strong operational results as well as increased access to capital via a combination of new federal level cannabis legislation and the entrance of new investors into the sector in the absence of new legislation will lead to a valuation more appropriate for a business with this margin and growth profile.

Background: There is quite a bit of attention paid to cannabis markets globally as countries and individual US states move out of decades of prohibition and into regulated medical – and in some cases recreational – marijuana consumption regimes.  While Canada has the unique position of being the only developed nation with a federally-legal and robust legal marijuana program, 33 US states have legalized medical cannabis and 11 have legalized recreational cannabis. Canadian investors have reflected a strong interest in funding these businesses and Canadian exchanges have become the go-to place to raise public capital for cannabis companies pursuing both domestic and international strategies.  More specifically, for cannabis-touching companies operating in the US, the Canadian Stock Exchange (CSE), and the US OTC markets are the only stock exchanges where they can currently list. This inefficiency severely limits the aggregate pool of investors and access to capital for these US businesses, at a time when they require significant growth capital. This, in turn, has led to depressed valuations for these US-based companies when compared to either their stand-alone financial profile or when compared to Canadian peer company valuations who have been able to list on the NYSE, NASDAQ or TSX exchanges. While it is not necessary for our thesis to play out on Trulieve, it is our view that this dynamic will evolve as the US Federal government adopts more accommodative policies, such as the SAFE Banking Act and/or the STATES Act, opening traditional financial conduits and leading to a meaningful re-rating in valuations for US cannabis companies as they up-list and new pools of capital chase the investment opportunity.

Thesis:

·         Trulieve went public in September 2018, and is the leading medical cannabis company in Florida with over 55% YTD market share, more than twice the share of the next closest competitor (Source: FL OMMU). Trulieve is also developing assets in 3 other states, including California, Connecticut and Massachusetts  (note: there is currently no inter-state commerce for cannabis, nor is there expected to be any with federal legislative change, so each State operates as a separate and distinct market)

·         The FL market is tightly controlled with only 21 licensed entities, of which only 11 are operating today. Of those operating today, only 6 operators have more than 10 stores, and only 3 operators have more than 20 stores. Trulieve currently has 35 dispensaries open and is licensed for a total of 49 dispensaries, more than any other operator. The majority of operators are limited to 35 dispensary locations,  but through a court challenge, Trulieve and a select few early operators were awarded additional licenses (https://news.wjct.org/post/state-settles-trulieve-over-marijuana-dispensary-caps)

·         As mandated by State regulations, all FL medical cannabis operations must also be vertically-integrated from seed-to-sale, meaning they must each cultivate, process, package, distribute, retail and deliver cannabis flower and value-added products across the State. Trulieve also has the largest production and distribution footprint in the State, which is a meaningful competitive advantage as the lack of a wholesale market means every operator must produce all their products in-house, and is thus the key limiter to growth. Trulieve has over 1.6MM sq ft of cultivation capacity that generates over 55,000 kg’s per year of cannabis biomass, which is over 3x as large as their closest competitors.  They are also actively expanding that capacity to reach nearly 65,000 kg’s per year by this fall.

·         Another competitive advantage, Trulieve has the broadest set of SKU’s with more than 240 as compared to the competition which averages less than 50 SKU’s. The company’s expertise and speed-to-market in product development is unmatched in the industry, and means Trulieve is a trail-blazer and is often the only operator in the State with the products demanded by consumers. For example, Trulieve has over 100 varieties of vape/cartridge products where most other operators have less than 10 offerings. Trulieve is also the only operator which has sufficient indoor cultivation capacity (vast majority are greenhouse cultivators) to supply the high-end dry flower market, which is a high margin product category and allows Trulieve to solidify themselves as a high-quality brand.

·         The market currently has 272,000 active patients which supports a ~US$700MM annual market today. More mature medical cannabis markets typically cap out at between 2-3% of the population registered – at 2.5% that would represent ~550,000 total potential medical patients in the program, leaving 100% upside to the aggregate market size, representing a ~$1.4BN market opportunity. This aggregate market size would also move higher upon the introduction of edibles, which alongside Florida’s program that has low barriers to entry for patients (1 week and ~$200-300 for a medical card), would likely expand the market to ~4% or ~850,000 patients, representing a $2.2BN market opportunity.

·         Trulieve has established itself as the market share leader with ~55% of the YTD market share, and with ~50% of the most recent month market share (in terms of grams sold), based on their leading footprint, largest production capacity, and through their unparalleled customer outreach platform which include numerous community events and over 100,000 social medial followers. They’ve established a first mover advantage via establishing the first cannabis dispensary in 19 of 29 regional markets, have a fleet of 75 delivery cars, and as such, maintain the only real full-distributed brand in the state.

·         The steady market growth as well as their firm leadership position and tight operational control has translated into significant visibility on revenue and EBITDA. In April, Trulieve provided guidance for 2019 and 2020, which to date they are safely tracking ahead of:

·         2019: $220MM to $240MM in revenue at 40.0% EBITDA margins

·         2020: $380MM to $400MM in revenue at 38.5% EBITDA margins

·         In H1/19, Trulieve generated revenue of $102MM and $51MM of EBITDA for a 49% margin. Consensus expectations called for $38MM EBITDA, representing a beat of 34%, the only major cannabis company to beat by double digits. Today, consensus expectations are calling for FY2019 revenue of $240MM and EBITDA of $108MM for margins of just 45%, but based on management commentary and the OMMU data that drives my model, Trulieve is again tracking well ahead of 2019 numbers.

·         I conservatively model H2/19 revenue of $174MM and $77MM in EBITDA  implying 44% EBITDA margins vs. H2/19 expectations for $138MM in revenue and $57MM in EBITDA, which implies a back-half EBITDA beat of 35%

·         For additional detail, you can arrive at an estimate for FL-based revenue by taking the weekly OMMU data, multiplying total MG’s sold x $0.12/MG and total Oz’s sold x $12/gram (x28 grams/Oz), a conservative avg price per unit based on Trulieve’s entire product portfolio

·         I also assume that edibles have no impact on financials this year, despite early indications they will be allowed in Q4 and finally, that there is zero growth or additional contribution from Trulieve’s CA or CT assets. MA, which is in the final stages of its build-out, won’t generate revenue until Q1/20.

·         As it relates to 2020, in their home market of FL we have seen at least 4 other operators state publically that they will be slowing down their investment in the state to refocus resources on their respective home markets. This is largely driven by the fact that mandatory vertical integration in FL means the capital intensity to stand up a profitable business is significant, and at the same time there has been a protracted downturn in the broader cannabis investment market where new financings have dried up. Of course, demand growth in the state is only increasing, leaving the top players to capitalize on the growth of the market.

·         Based on my model, which conservatively has Trulieve growing at half the rate of the overall market in 2020, the business can generate $400MM from FL alone, before edibles. Assuming edibles launch January 1, 2020, that number increases by at least 10%. Adding CA, CT, and just 6 months of contribution from the MA production asset, adds $40-60MM to that total, for a 2020 forecast revenue range of $480-500MM, and at 38.5% a mid-point conservative EBITDA estimate of $190MM.

·         At Trulieve’s current share price of $12.50, that represents a valuation of 5.3x 2020E EBITDA vs. US comps at 8-12x and Canadian comps at 12-20x. Importantly, the company is not only cash flow positive before capex today, but the company’s capital plan is fully funded with current cash and debt facilities. The company will be strongly FCF positive by Q1/20 when the expansion based capex from FL and MA largely finish in Q4/19.

·         We believe that the combination of continued strong operational results, results which will meaningfully beat current analyst estimates, will push TRUL shares to trade alongside their US peers, leading to a potential 80-120% upside. If the traditional conduits for capital are opened as they are for their Canadian peers, that upside increases to 120-200% upside. Finally, if the Florida market turns recreationally legal and/or Trulieve accretively enters new markets, the upside is further still.

·         The risks largely relates to key man risk in the CEO, Kim Rivers, who leads both operational activities and is the key investor facing company representative. Also, any negative regulatory change on the state or federal level must be watched closely, although we feel that legislation is already quite burdensome and will likely improve over time, with the potential for i) removal of mandatory vertical integration in FL, ii) the opening of the recreational market in FL, and iii) at the Federal level, the SAFE Banking Act and/or STATES Act in the next 1-3 years.

Catalyst

o   First, continued operational execution and realizing results ahead of consensus expectations should allow a lift in shares, without needed an increase in multiple. However, if they are generating margins and FCF well ahead of peers, I would expect the multiple to also increase, at least commensurate with US regional peers.

o   an opening of the medical market to allow wholesaling as well as retail-only or cultivation-only players would allow a significant step-up in the retail storefronts in the State, which may have a modest impact on price, but would allow Trulieve to instantly increase their distribution from 49 stores to over 200 locations (or more depending on new openings)

o   the opening of a recreational market in FL would take the total market size from ~US$1.4BN to ~$6BN nearly over night, based on the average per capita purchases from other US States which has relaively mature recreational cannabis markets such as CO, CA and OR.