Marijuana merger: Companies burning cash, could be smoked by competitors

Risks associated with medicinal marijuana companies have manifested, with documents revealing the capital-intensive industry is prone to international competition and possible takeovers.

A report evaluating the proposed merger between Cannasouth and Eqalis for $48.8 million, said both businesses faced significant risks, with listed firm Cannasouth requiring significant capital to be able to carry out its plans.

“Greater access to capital in the short term is likely to provide a better prospect of survival in a high burn rate and capital constrained environment.” Investment bank Armillary Private Capital said in the report.

Key risks that could each reduce the value of the merged entity by about $2.5m included Cannasouth’s manufacturing certification being delayed by one year or its marijuana crops failing to flower or being contaminated.

A “significant threat” was if the price fetched for flower fell, the report said. If prices dropped by 20 per cent, that could wipe $7.4m off Cannasouth’s value.

The price of marijuana flower dropping is a "significant threat" to Cannasouth, an investment bank's analysis has found. Photo / File

“Increased competition, both domestically and internationally, can be expected to put downward pressure on the price of flower, exposing Cannasouth to a significant threat.”

The report also revealed Cannasouth was considering selling its pharmaceutical manufacturing and packing facility in Hawke’s Bay called Midwest Pharmaceutics.

Eqalis had its own certified marijuana manufacturing and extraction facility in Katikati. But the company was pre-revenue and its value was built on forecast volumes that may not be realised in full, the report said.

It had raised capital seven times since 2019, with the most recent round in August last year valuing it at $39.3m.

The merger proposal was for Cannasouth to acquire all shares in Bay of Plenty-based Eqalis for $48.8m.

The report said both companies were likely overvalued and if merged they could cause a bump in share price but not long-term value, as the regulatory environment and global medicinal marijuana market matured.

Regulatory approval was needed and expected to be received by mid-March.

Ultimately, a merger would benefit both cannabis companies and make it ripe for a takeover offer, the report said.

“The merger provides a significant opportunity to re-brand, attract strategic investors, rollout positive good news announcements and attract analyst coverage.

“It is also likely that the merged entity will be more attractive to a takeover from an industry participant as there will be a broader diversity of offering to attract a buyer for all or parts of the business.”