Cannabis Musings - June 27, 2024

Why don't listed cannabis companies just go private?

Friends, I recently got into a thoughtful, yet brief, debate online about the idea of taking a public cannabis company private.  It’s been a few years since we talked about this topic, on a different platform, so I thought we’d revisit the going-private transaction.  It’s one of those things that, because this is the cannabis industry, is a good idea at first, but becomes less so each time you hear it.

What we talk about when we talk about a going-private transaction is, in short, buying all of the stock of a publicly-traded company from its existing stockholders, delisting that stock from the exchange so that it’s no longer traded, and cancelling registration with the U.S. Securities and Exchange Commission (and/or the equivalent in Canada) so the company no longer has to make public filings. 

To understand why companies go private, it first helps to understand why companies go public (i.e., listing their shares on an exchange for trading) – money and liquidity.  Take my apocryphal infused knish company, NoshCo.  Being public, NoshCo could sell stock to investors relatively quickly because it’s now disclosing material information about itself through registration with the SEC (e.g., quarterly and annual filings).  Those investors like buying publicly-traded stock because then they can (usually) sell it quickly, unlike the stock of a private company (assuming that private company lets them sell at all).  And, being public allows long-time NoshCo stockholders (employees, founders, early-round investors) to sell off the stock they’ve been sitting on for a long time (liquidity). 

Wow, that sounds great, so why wouldn’t every company do that?  Well, in 2016-18, seemingly every U.S. cannabis company with a license and a pitch deck did.  The Canadian Securities Exchange was not shy about U.S. plant-touching companies listing their shares from trading, even with the pesky problem of those companies violating U.S. federal law.  Where the U.S. exchanges and the other Canadian exchanges dare not tread, the CSE provided a lifeline.  Canadian investment banks helped connect investors with issuers in order to take them public on the CSE (and, to a lesser extent, the NEO, now known as Cboe Canada), quickly and effortlessly providing billions in early growth capital to build the state-legal industry that we have today.  It was a wild time.

Quickly, though, NoshCo started to realize that being publicly-traded isn’t all sunshine, lollipops, and rainbows.  Among other things:

• The value of NoshCo’s stock is subject to broader market forces

• The management team is generally more subject to pressure to focus on shorter-term returns and equity gains, rather than long term planning and growth (particularly in a nascent industry)

• NoshCo has to disclose publicly everything material, sometimes within a few days, as well as quarterly and annual reports, which involves lawyers and accountants, which cost money

• NoshCo’s financials need to be audited, which costs even more money and requires a much higher level of internal controls and processes

• The directors and officers liability insurance is exponentially higher

• There are plenty of plaintiff’s lawyers ready to sue public companies like NoshCo for securities fraud

• The pipelines that make equity markets flow (e.g., brokers) may not allow customers to trade the stock because NoshCo is plant-touching

• It’s hard to get investors to notice NoshCo’s stock, which trades for a handful of loonies, in the noise of the thousands of other stocks out there

We could go on, but you get the point.  These same concerns underpin some of the trends in private capital markets over the past few years – it’s sometimes cheaper and easier to stay private.  And yet, public markets remain the most efficient way for companies to raise large amounts of equity capital again and again, so most large enough companies are willing to suffer the pain. 

So, with NoshCo stuck in a rut of endless public compliance and maintenance costs with seemingly no remaining benefit, why don’t I just take NoshCo private?  Es tut zich nit azoi gut vi es redt zich (“It’s easier said than done.”).

The two biggest problems with this idea are (1) money and (2) money.

First, money, as in, where am I going to find it?  I need to buy all of those shares, and then cancel the registration and stock exchange listings (I’m simplifying this, but when you’re taking a company private, most of the point is that you don’t want to continue to deal with random stockholders), and even with the stock price trading for a bisl shekels, there’s a lot of shares outstanding.  Unlike buying a private company, where the owners may be tempted with equity of the buyer, public stockholders need to be paid in cash (otherwise, they just end up as stockholders again, and, well, ibid.).  Usually, a healthy portion of that cash buyout comes from debt (the origin of the term “leveraged buyout”), but that kind of borrowing doesn’t really exist in the cannabis realm.  So, it only really works if I have tens/hundreds of millions of dollars of cash lying around to buy all of NoshCo’s shares. 

Now, what if one of the cash-flush large MSOs wanted to take NoshCo private instead?  Well, that could solve the money problem.  But then you have to deal with the (other) money problem, namely that a going private transaction is really expensive.  The process requires a stockholder vote (proxy), almost certainly a fairness opinion from an investment bank (basically, a letter saying that the terms of the deal are economically fair), lawyers to negotiate the deal, and accountants.  Oh, and because I’m both the Founder and CEO of NoshCo, and NoshCo’s suitor, the company will need an independent committee of its Board to represent the stockholders, which will also needs its own lawyers, bankers, and accountants (which, of course, is avoided if that well-heeled MSO is the suitor). 

This is millions of dollars of expenses that needs to be considered relative to NoshCo’s market cap – is it really worth that expense to take NoshCo private?  Are NoshCo’s expenses for being a public company really that high?  Is NoshCo’s stock trading at such a discount to what I think is its actual value that it’s worth spending that kind of money to take it private?  Would it be cheaper to just shutter the thing and white label infused knishes instead?

None of this means that going private for a public cannabis company isn’t possible.  I’m confident there are scenarios where the facts line up and it can be done.  I just don’t think it’s terribly feasible given all of the barriers to entry.  And when you layer in all of the roadblocks that make distressed M&A particularly challenging in this industry, it’s even harder.

If it were easy, we would have seen a lot of it, because it simply doesn’t make sense for many of the public U.S. cannabis companies to remain that way.  But it isn’t, so we haven’t.

Be seeing you!

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© 2024 Marc Hauser and Hauser Advisory.  None of the foregoing is legal, investment, or any other sort of advice, and it may not be relied upon in any manner, shape, or form.  The foregoing represents my own views and not those of Jardín.