The rise in popularity of cannabis industry sale-leaseback financing deals may be what’s on investors and operators tongues right now, but that by no means one should forget about broader topic of traditional capital sourcing for entrepreneurs, and how important cannabis debt deals are going to become in 2020.
In a guest post on New Cannabis Ventures titled “The Importance of Cannabis Debt Scoring During The Capital Crunch” by Frank Colombo, Partner and Chief Risk Officer of Aspen Finance LLC., the seasoned executive with over 20 years of success in consulting, credit research, valuation, and financial planning and analysis laid out some key trends and observations.
One of the key points was that cannabis capital structures debt (including equity-linked debt, like convertibles), accounts for only “12.9% of market capitalization for the top 25 U.S. public cannabis companies”, and gave a few bullet points for greater context [emphasis ours]:
- Most banks and financial institutions are unable to lend to cannabis companies, and this is unlikely to change in 2020. Private capital is increasingly stepping in to fill the void, driven by the extremely attractive returns.
- Historically this nascent industry presented too high a risk for fixed rate investors. Accordingly…
- Most cannabis debt has been convertible with low conversion premiums – essentially representing delayed equity issuance. Many deals have paired convertible debt with detachable warrants for combined coverages of well over 100%. The “stripped yields” (yields with conversion features removed) on these converts are eye-popping and the few straight coupon deals have been equally attractive.
According to Colombo, “18 out of 25 U.S. cannabis companies profiled are expected to be EBITDA positive in 2020 (versus 8/25 in 2019), supporting the inclusion of debt in their capital structures” and “debt capacity (calculated at 3 times consensus estimates of 2020 EBITDA) is approximately $4 billion compared to outstanding debt of about $1.8 billion ($0.5 billion of which is MedMen alone!).” In other words: “the credit quality of the industry is now at a tipping point.”
With global cannabis sales growing 48% to $15 billion dollars in 2019 and the recent success of the market rollout in Chicago with almost $20 million dollars in sales in less than the first two weeks of adult-use sales, the market is still settling under the feet of the industry itself. As it relates to credit ratings, Colombo cited the need, at a minimum, to have the SAFE Banking Act pass before before credit rating agencies like S&P or Moody’s to get involved. He also posited that a “simple yet robust credit ranking model will be a prized tool for portfolio managers first dipping their toes in the cannabis debt market”.
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