I first got wind of The Valens Company $VLNCF a long while ago. But, it is the retooling of the business over the past year that put them higher up on my radar. They are focusing on becoming the white label cannabis producer. That would not be my pick for cannabis companies. I measure this from two angles: Doing all of the dirty work usually means lower margins. On the other hand, this is cannabis.
While The Valens Company has not come out with future guidance themselves, they have relied upon outside analysts’ projections for revenue and EBITDA. Future projections will have revenues increase significantly. I wanted to look at these projections and break down what this would mean for $VLNCF over the next 1.5 – 2.5 years’ time.
Is The Valens Company a good buy? Lately, it has been going up one-way. In fact, it’s up 100% since the start of March. Interesting timing since Sundial Growers $SNDL just increased its ownership percentage.
Here’s the chart to start out that thought:
The Valens Company stock has been heading higher over the past two months, doubling since March. Whereas through February there was a coincidental move upwards with all cannabis stocks, Valens quickly went back to a net-zero gain. Then, on its own began moving back up again well beyond the previous high from February.
The dirty work of other people’s business
As I mentioned, I’m not necessarily a big fan of doing the heavy lifting for another company. This business model is famously portrayed with Coca-Cola. There are basically two companies with Coke. First, there are the bottlers and distributors. Coca-Cola Bottling was spun out because of the high costs associated with manufacturing and distributing all of those bottles of coke. Think about all of the labor and truck costs associated with putting so many bottles of coke on shelves. This, after all of the costs of producing the product. Margins on these kinds of companies are always smaller.
The other half to that business is the marketing portion of Coca-Cola. All this portion of the company does is market products. Then, any time the bottling company puts a bottle on a shelf, The Coca-Cola Company gets a small portion of the sale. They certainly have costs, but not heavy-duty labor-intensive costs, nor manufacturing costs. Margins for Coca-Cola are much higher than Coca-Cola Bottling.
While this little biop of Coke is served to show a basic principle of how some companies work, it is very basic. Nonetheless, it is an important concept to understand simply because The Valens Company is doing the “bottling” in this process. But, it is cannabis and margins for cannabis are going to be higher than sugar water.
I wanted to show what was inside the MD&A for Valens regarding the future outlook. First, this is a snapshot of the company’s MD&A – page 23. Second, this is not the company’s future guidance but, an aggregate of analysts’ projections. Third, the numbers below are in CAD whereas all of my numbers are in USD.
This gives an idea of what is possible:
Gross revenues are starting to pick up the pace again and :
Revenues will continue to increase as Valens moves forward with build schedules. But, in order for Valens to achieve this goal this year, they are in need of an additional ~$75M. That averages to about $25M each over the next four quarters. We will need to see that kind of growth soon.
This is what the revenue picture could possibly look like over the next three quarters:
I will continue to look at this chart over the next three quarters to see if the revenue goals are achieved.
Moving back to the concept of Coca-Cola Bottling, margins are going to be lower than other cannabis companies. Already, what Valens is working with has lower margins:
The previous quarter notwithstanding, margins have been muted somewhat. I expect this and I expect that to continue. The fact is, without premium branding, you do not get premium margins. But, what Valens can do is make up for this with volume to get a congruent ROI.
As one could expect, total operating costs are elevated on a relative basis simply because structures being built are not producing revenue. But, you still have to pay the rent.
The eventuality is to see this chart slide lower down to about the 30% – 35% range. Then, operating costs will be lined up with revenues on a relative basis. Given the elevated numbers, I have projected with the revenue picture what margins could look like in the next year.
EBITDA & Net Income
EBITDA positive will remain elusive for the foreseeable future:
The future projections have a couple more quarters where the expectation is negative EBITDA. Then, this will turn upwards modestly but, be far more weighty the following year into 2022. Total EBITDA profits for 2021 are expected to be about $6M meaning that margins will need to improve to levels that will add more to the bottom line, revenues will increase substantially enough to bring in economies of scale, and operating costs will line up with revenues to being more justifiable. That means a significant swing to the upside.
As long as Valens can maintain its build schedule, grow into each facility on a scale-in basis and then contain costs, EBTIDA profitability will likely swing in the 3rd or 4th quarter of this year coming.
Total equity is pushing higher but, unfortunately, that is more to do with the fact that Valens did a bought deal that brought in cash versus their ability to create investor wealth.
You can see the cash infusion more when you look at cash on hand:
But, it is book value per share that I like to look at to give an example as to where the stock price could be:
Book value per share has the ability to show if a stock is valued appropriately versus total assets with a nod towards enterprise value and goodwill. Remember, VLNCF just doubled in price over the past 2 months. At the previous level, about $1.35, it was slightly overvalued relative to book. Now, it is even more overvalued.
But, that is not a be-all, end-all metric. It is a metric that shows some amount of relativity. This is cannabis and, the growth rate in cannabis will outpace the rate of growth in book value. Still, I like to check in to see where this is.
Is the Valens Group Stock a good buy?
Is the Valens Group stock a good buy? First, there is growth to be had here and I believe this company will achieve its goals and become a significant player in the white-label cannabis world. But, I do not believe that this stock will perform as well as other companies simply because the margins that Valens will receive will be lower than other companies focused on their premium products.
Still, that is not to say this would be a solid investment. It is just that time is money. And, if you were to pick up this stock, and forego investing in another stock, you lose out on the growth differential opportunity.
Then, there is another factor: $VLNCF has doubled in 2 months’ time. I felt it was slightly overvalued at that point. Now, I am far more hesitant.
Base Case scenario
Nonetheless, let’s run some numbers on the revenue, gross margins, operating costs, EBITDA levels, and the total shares outstanding to see where this stock should be.
- $93M Revenue
- 50% Gross margins
- 35% Total operating costs
- 10% Continuing costs margins
- $0.45M Net Revenue
Then for the following year:
- $145M Revenue
- 55% Gross Margins
- 32.5% Total Operating Costs
- 10% Continuing costs
- $17.5M net profit
There are 159M shares outstanding. That puts EPS at about $0.11 per share. With a fairly healthy future earnings multiple of some 75%, VLNCF is an $8.25 stock.
Keep in mind two things. First, I used a 75x future earnings multiple on this EPS. I do not believe Valnes will achieve significant margin levels compared to others in the cannabis industry. But, they will be printing significant revenue gains, so this is a healthy balance. The other thing to keep in mind is that the run rate for the second portion of this starts at the beginning of the year yielding the return to the investor over the following year.
Given that, $VLNCF achieves its price target in four quarter’s time. The price target is already about 50% of the way there.
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