Do It Yourself Stock Investor

Canada's Neptune Brings Marijuana To NASDAQ

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Neptune stock chart with marijuana plant

In the United States marijuana has legal recreational use and medicinal use in select state jurisdictions. On the federal level it is all illegal, but an administrative memo had paused most enforcement until now. United States Attorney General Jeff Sessions has canceled the marijuana support memo. This federal divide restricts financial institutions from handling the proceeds of U.S. marijuana and the product from being shipped via the post office. Additionally, as the bulk cash grows, the storage of it produces risk. It's a federal crime to protect it with armed guards. The complications go on and on, but not so with Canada.

Neptune Wellness Solutions is a Canadian based company now specializing in CBD oil extraction. Also known as Neptune (NASDAQ: NEPT), the company had been a long-standing, global producer of proprietary krill oil and other Omega-3 products. Neptune has its factory and lab located in Quebec, Canada.

During the krill oil business, Neptune constantly spent R&D costs on defending their patents and trying to collect royalties from delinquent partners. A long dispute dragged on in Australia over Enzymotec's refusal to pay. Eventually, in April 2017 Enzymotec begain paying on their settlement of $1.63m. This was the wind-down of the Omega-3 krill war. At that time Neptune had already received a better settlement package from the more amicable, Aker BioMarine. Ultimately, Neptune sold most krill assets to Aker BioMarine for $34m. This was due to Aker's harvest fleet being a more synergetic acquirer, the best price offer, and potential future deals. Neptune also concluded that the krill oil market was too small in comparison to their opportunity in cannabidiol (CBD).

What is Cannabidiol (CBD)?

Cannabidiol, aka, CBD is a chemical inside the marijuana plant. It is just one of +80 chemicals identified thus far. Delta-9-tetrahydrocannabinol, aka, THC is the more commonly known chemical and is the source of getting high or intoxicated. In contrast, CBD does not act as an intoxicant and is primarily effective in altering the brain from registering pain and having various psychotic symptoms. Patients use CBD for anxiety, bipolar disorder, dystonia, epilepsy, multiple sclerosis, Parkinson's disease and schizophrenia.

Neptune's Cash and CBD Market Estimates

Cannabis and krill oil market

In 2016, Neptune had annual revenues of approximately $23m and was still owed some royalties. This placed their footprint at around 1.1% of the $2.1b krill and Omega-3 market. The Canadian cannabis market is estimated to hit $7.8b by year 2021 and Neptune's share of that stands to produce more revenue than before. If they can capture 1.1% while focusing on the CBD oil sector alone they could have approximately $86m in annual sales. This translates to over 3x previous annual revenue.

At their marijuana presentation, the last licensing process projected was the Inspection and Sales License slated for completion by Q4 2018. Neptune operates on an adjusted fiscal year and has already completed fiscal Q2 of 2018 on September 30, 2017. Third quarter of 2018 would have ended December 31, 2017 and we have yet to see the earnings report. Their low-end estimated penetration of the market was a 5% by 2019 for an approximate $85.5m in annual sales or $114m by 2021.

When Neptune sold krill assets to Aker Marine, they held onto other Omega-3 products which are of the larger $2b annual market. They retained: MaxSimil, Biodroga, and Acasti Pharma (CaPre). MaxSimil is in the plans to infuse CBD oil with Omega-3s. The $34m sale price of krill assets put them in great cash to debt leverage.

"Turning now to our financial position. We are happy to report that we have a very healthy and strong balance sheet. As indicated on Page 11 of the presentation, as of September 30, 2017, on a pro forma basis, after considering the reimbursement of $2.4 million to the Federal Government on October 6, we have cash of $31.8 million and the remaining amount of debt of $4.9 million.

The financing cost of this debt is approximately 5% annually. We used a portion of the transaction proceed to deleverage our balance sheet by reimbursing $17.2 million of long-term debt." - Q2 2018 Earnings Call

Buyout Possibilities In Marijuana Industry

The most notable M&A or buyout scenario is the hedging by beer companies. Constellation Brands (NYSE: STZ) is known for its popular beers: Corona, Modello and Pacifico. In October of 2017 all the press was reporting, Constellation to buy into marijuana company with talks of infused beer. In Canada, this is also taking place with wine and spirits merging with marijuana interests.

The alcohol industry does have a larger market capital and treasure chest to invest. Popular Jack Daniels whisky is owned by Brown-Forman Corp. (NYSE: BF.A) (NYSE: BF.B). They have a $26b MarketCap and over $200m in cash reserves. The maker of Budweiser beer, Ambev SA (NYSE: ABEV) has $2.7b in cash reserves.

In the summer of 2016, Microsoft entered into the marijuana space with supplying software solutions for state marijuana commerce. Microsoft (NASDAQ: MSFT) has yet to make any larger activity towards legal marijuana.

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Disclosure: I am/we are long NEPT and no positions in the other mentioned stocks and with no plans to initiate any positions within the next 72 hours.