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Marijuana Producer

Acquisition of a competitor, a joint venture with Molson Coors and international expansion plans add to the growth potential for this cannabis company as it aims for revenue to match its sizeable market cap.

HEXO CORP., $5.47, symbol HEXO on Toronto (Shares outstanding: 256.9 million; Market cap: $1.4 billion; TSI Cannabis Quality Rating (CQR):  ; www.hexocorp.com) is a Canadian-based producer and distributor of medical cannabis with production facilities in Quebec. In addition, the company plans to branch into the recreational and consumables markets when it becomes legal.

Hexo listed on the TSX Venture Exchange in March 2017 and moved to the main Toronto Stock Exchange on June 22, 2018. The stock is also listed on the New York exchange under the symbol HEXO. The company changed its corporate name from Hydropothecary Corp. on August 29, 2018.

In March 2018, the company announced an agreement with Shopify, symbol SHOP on Toronto, to use that firm’s e-commerce platform for cannabis products. The company believes this is an important component of its Canadian distribution strategy.

Under license from Health Canada, Hexo started production of medical cannabis in 2014 and subsequently gained approval to transport and sell marijuana in various formats. That includes oils. Hexo now serves the Canadian adult-use recreational markets under its Hexo Cannabis and Up Cannabis brands, and the medical market under Hexo medical cannabis.

As one of the largest licensed cannabis companies in Canada, Hexo operates with 2.4 million square feet of facilities in Ontario and Quebec. The company is also now in the process of preparing its Gatineau, Quebec facility to produce cannabis-infused edibles and beverage products in anticipation of legalization of these products in Canada in October 2019.

The company is also expanding internationally through a partnership with Greek company Qannabos. Hexo plans to use the foothold in Greece to establish a Eurozone processing, production, and distribution centre that will give it access to customers across Europe and deliver CBD products through both medical and adult-use channels. It also aims to use the Greek operations as a springboard to enter the U.K. by 2021 and France shortly thereafter.

Earlier this year, the company completed the acquisition of Newstrike Brands (symbol HIP on the Toronto Venture Exchange) for approximately $263 million in Hexo shares.  Newstrike is backed by the Canadian band The Tragically Hip. The purchase expanded Hexo’s distribution range from three to nine provinces. Newstrike also has two cannabis facilities in Ontario—an indoor grow room in Brantford, and a greenhouse in Niagara.

The company currently offers 30 Hexo products for the adult-use market in Canada. These products are currently available for online shipping and in stores across Canada and include dried flower, milled, pre roll, powder, spray and capsule formats. Selected products include Bayou Flower, Sierra Pre Roll, Horizon Flower, Elixir THC Oil, Nebula Flower, Fleur de Lune Intimate Spray and Atlantis Flower. In the future, Hexo intends to extend its offerings to include soft gel capsules, vapes, topicals, edibles and beverages.

Hexo products are available in nine provinces, but its most important distribution agreement is with the Quebec government. This includes a five-year contract with Quebec’s Société québécoise du cannabis (“SQDC”), that Hexo estimates could be worth as much as $1 billion in potential revenue over its life. Its sales in Quebec represent over 30% of the province’s adult-use sales in the first year of legalization based upon disclosed supply agreements. Hexo will supply the SQDC with 20,000 kilograms of products in the first year, and expects to supply 35,000 kilograms and 45,000 kilograms in years two and three, respectively. The volumes for the final two years of the agreement will be established at a later date based on the sales generated in the first three years.

Apart from the medical and recreational markets, Hexo has a joint venture agreement with Molson Coors, Toronto symbols TPX.A and TPX.B. Under the terms of that deal, Molson will own 57.5% of a new joint venture focused on developing cannabis-infused non-alcoholic beverages. Edible cannabis products, from drinks to brownies, should become legal as early as mid-2019.

For the three months ended April 30, 2019, overall revenue jumped sharply, to $13.0 million, from $1.2 million a year earlier. Losses grew to $7.8 million, or $0.04 a share, from $2.0 million, or $0.01.

Hexo’s balance sheet is strong: on April 30, 2019, it held cash of $173.6 million and had almost no debt.

The company should benefit substantially from its large supply contract for the Quebec government as well as its agreements in other provinces. However, it faces aggressive rivals in the Canadian market. That fierce competition could eventually result in an oversupplied market and put downward pressure on cannabis prices.

The agreement with Molson Coors also raises the possibility that Hexo may eventually be acquired by that much larger alcoholic beverage maker. Alone, that’s not reason enough to buy the stock, but it adds appeal.

Note that like most marijuana producers, the company needs huge revenue growth to justify its current market cap. If its revenue growth stalls, Hexo could drop sharply as momentum traders unload the stock.

Hexo Corp. has a 3-Leaf Cannabis Quality Rating (CQR). The stock is a speculative buy for aggressive investors who want exposure to the marijuana industry.