Chit Chat Stocks - High Tide: A Cannabis Stock Dominating the Canadian Market (Ticker: HITI)

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Starting point is 00:00:47 welcome to chitchat stocks on this show host ryan henderson and brett shaffer analyze businesses and riff on the world of investing as a quick reminder chitchat stocks is a ccm media group podcast anything discussed on chitchat stocks by ryan brett or any other podcast guest is not formal advice or recommendation now please enjoy this episode welcome to chit chat stocks this week we've got a special episode for you we typically have our power hours on this day but instead it's the holidays so we've pre-recorded an episode on what is potentially the costco of cannabis as brett has coined it here and we're going to be digging in. It's Brett's Monthly Research Report. And this is a company, I'll be honest, I had never

Starting point is 00:01:46 heard of until you reported on them, until I read your report. And so I'm excited to get into it. Before we do though, I want to make a couple notes. First off, the show notes will be on our sub stack as always. It is 100% free. You can go in there, check it out, see the write-up, see any charts that we have. And then also, it really, really, really helps our show if you give us a review. I can't even begin to tell you how much it helps amplify it. So if you listen to us and you think, whatever, I don't need to give a review, please, if you like us at all, go ahead and give us a review. And then the last thing I'll mention as well, we have a conversation going on our Substack channel as well. So if you have any questions,

Starting point is 00:02:28 any comments, any feedback, go ahead. You can respond there and we'll get back to you as quickly as possible. But with that said, I guess, Brett, how on earth did you find this company? Well, I tweeted, are there any promising stocks or something along those lines? Hey, any stocks that you want me to research on upcoming podcast episodes? And this one, I think, had three people respond with the same answer, like, oh, do this ticker, do this ticker. It's H-I-T-I, for anyone that doesn't know. It's an interesting company. I hadn't heard of it before this. So we're really going to dive into the stock, high tide, figure out whether it could be a promising stock to own. We're going to figure out what they do, how their special sauce is made,

Starting point is 00:03:17 why they're gaining market share. I should have a disclosure here. I do not own any shares today. If you are interested in buying any shares, you can buy them on the Canadian or US stock exchanges under the ticker h-i-t-i let's get right into it what is a high tide ryan what do you let maybe i guess you were supposed to ask this question to me but when you hear that name what do you even think like what was your first inclination well i knew it was a cannabis stock so uh it's a play on that word yeah yeah i i knew what it was but yeah i thought oh man what is that name i thought it might be some sort of like a brewery on the beach or maybe a surfing business but uh no it is not i guess why don't you get into it what actually is high tide

Starting point is 00:04:09 yeah they're a canadian cannabis company if that makes you immediately wretch and want to ignore the stock which you know given how some of these companies have reformed i don't blame you perhaps perhaps that thinking is why we should be researching it. A lot of people ignore these companies and, hey, maybe there's some diamonds in the rough. The stock here, and I'm going to be using any of the Canadian dollars and any sort of the Canadian share price throughout this episode, it's gone from just over $1.50 in the middle of 2023 to $4.52 today. So what is that, 3X pretty much? Yeah, 3X almost exactly in less than two years. It currently has a market cap of 365 million dollars and we want to get to actually what they do besides just oh hey they're canadian

Starting point is 00:04:56 cannabis company they have a flagship retail brand called canna cabana lots of c's and a's in the words i hear today i remember typing on that uh i don't know what it is about canada but maybe you know cna it's popular letters that's their flagship brand though canna cabana And it's really the only important part of the story here, or maybe 80% of the story. It is a retail concept that aims to be a one-stop shop for high-quality Canada's products at the best prices. So it's good selection, wide selection at everyday low prices,

Starting point is 00:05:33 something that has worked in retail before. It operates solely in Canada at the moment and prides itself on its new discount club model, which we'll talk about more throughout the episode. And in a fragmented space, And Canna Cabana now has around 12% market share in the five provinces where it operates in Canada. Yeah, I got to say, when you told me you're going to be researching this one, I was one of those people that kind of retched and said, ah, cannabis shrugged my shoulders. Tilray, yeah.

Starting point is 00:06:05 That's why the opportunity exists. And until I saw that stat that you just mentioned, that they have accumulated 12% market share in the five provinces that they operate, I was kind of going to ignore it. But this, I guess, I assume they're the largest player. Yes, in Canada. Yeah. how on earth did they get there like what's the uh i guess let's maybe go through the brands go through the actual business first and then we'll talk about the history yeah i mean we can talk about how they got there it's pretty simple they came up with this model they've been around for a while and they've been aggressive in acquiring retail shops so anyone that's looked at the cannabis space know that there's regulations in how many shops that can be opened and it changes you know from one province to another it can change from local jurisdictions we have that

Starting point is 00:07:00 in the united states as well so you want the you know the licenses to operate these stores so they they've acquired companies and they've worked to just grow and grow and grow this concept over time but if we look at some of their other parts of the business and this is maybe something where listeners will well they might understand that this makes us a bit nervous given the acquisitions they've made over the last few years so they have this company called fastender which is spelled with like fasten and then dr is a retail kiosk and smart locker technology that was acquired in 2022 this is something that is actually pretty useful in the cannabis space because it's just something that it's it requires higher security and you might have you know pick

Starting point is 00:07:51 up stuff i don't know it just makes a little bit of sense here although do you really need to own this company? I'm not so sure. Now one acquisition that I actually like a lot and maybe is the only one that they made that I like is Queen of Bud. It is a cannabis brand acquired in 2024 for only $1 million. And it's now one of their in-house cannabis brands that is a premium quality. So they don't, they're using some of it for white label, at least they are now, but they have their own white label can of cannabis brand. If you're going to make the Costco analogy, that would be you know the kirkland signature although making that comparison it's infinitely smaller than how strong kirkland signature is but queen of bud is another one that they now own and if we look at

Starting point is 00:08:34 what they are going to do with them they are bringing it to all of their stores and it's a very very popular let's just say you know brand in the space it focuses on mystical stuff i was kind of checking out their website crystals uh it seems like women love this product uh it's the reason they bought it and they got it for cheap and hey now they can distribute it one of these high quality brands and save on their margin saving their costs throughout their stores other acquisitions they made was new leaf naturals that was in november of 2021 premium cbd brand acquired for 39 million u.s dollars it was a u.s u.s company and financed through a stock offering They acquired Blessed CBD, a United Kingdom CBD company, acquired in 2021.

Starting point is 00:09:21 They acquired Dankstop in 2021, a website for selling cannabis accessories. They acquired Daily High Club, an accessories online retailer, you'll never guess, in 2021. So we're going to get into the history and why they're acquiring all these companies in 2021. one but the other acquisition strategy i'll highlight which i just already mentioned is consistently buying out existing cannabis retailers usually smaller ones usually distressed ones you know it's as we get to it's a tough space to operate in as a solo operator and then they rebrand it to canna cabana and that's how it's really the business model and what matters a lot That is the retail concept. That's where almost all of the revenue is coming from.

Starting point is 00:10:10 Okay. So you can more or less, if you're a listener, shrug off half the acquisitions you just mentioned and understand that this is a retail cannabis concept throughout five provinces in Canada that has its own in-house brand and is the largest market share player in those provinces. My question to you, is there any brand loyalty in cannabis? Do you know? Well, I think there is brand loyalty to an extent, but there are a lot of – are you saying for the retailers or for the actual products that they're selling? I mean for the products themselves. I think there is. I was looking up some Queen of Bud anecdotal evidence online, and people were sharing pictures of this new product. You know, they're like, hey, this is another high quality one.

Starting point is 00:10:59 Oh, I love this one. It tasted like whatever. I'm not not a user of cannabis, so I don't know exactly what makes something special or not. But I do think that there is I mean, the proof is in the pudding and their market share gains. There is loyalty to the retail concept in Canna Cabana that is offering them the everyday low prices that you might not see across these mom and pop shops. Right. Yeah. And certainly some economies of scale, I imagine, with suppliers as you become the leading market share player. Let's talk history, though. You just mentioned maybe some of the red flags that the company has in its acquisition history. So I guess, how did they get to where they are today? How did the stock get to where it is today? And what's kind of the history of the stock performance? Yeah, so I think to understand where high tide is, we need to look at the cannabis bubble

Starting point is 00:11:56 of late 2020 and 2021. Now, this is, if you're trying to remember correctly, this is not the big cannabis bubble. That was in 2018, which was right around when Canada legalized their market. And this one was smaller. There was one in late 2020 and 2021. It was kind of spurred on by the meme stock craze. It wasn't solely a cannabis bubble. And you can really see it in Tilray's stock chart. That was the big bubble stock at the time. The stock was up, I mean, just a monster amount in a month. And then it dived. And then in 2021, we saw a little resurgence and the stock's down 96% from there. High tide is a little similar, although it wasn't public in 2018. During 2021, the stock kind of, if I'm trying to look at this correctly,

Starting point is 00:12:48 maybe went up 3x, 4x to about $10 a share for a short while, and then collapsed down to $1.50. So when it benefited from this cannabis craze and the meme stocks in early 2021, high tide management became very aggressive and acquired a bunch of brands. It now owns CBD companies, e-commerce websites, and that other tech I mentioned. Now at the time, I would have identified this as a red flag. I mean, I still do. Since then, the pace of acquisitions has slowed down. You know, they've really refocused on Canna Cabana. They're making acquisitions that serve that brand. You know, you have Queen of Bud, which is that, you know, popular brand that I mentioned earlier that they acquired that they're going to distribute throughout the stores and try

Starting point is 00:13:34 to make it so that their Canna Cabana offering is even better. They have the smart lockers and kiosk technology and then, you know, acquiring those retail locations to add to the portfolio. I don't know if the red flag can be entirely put to bed, but they definitely have looked more sober in the last few years. I should mention when talking about management, I don't really have a section here specifically talking about them, but they are founder-led. I should really get this guy's name right. What is his name? Let's look it up. Raj Grover. So he started the company at age 20, 22, and he really started it first as an accessories company. It was actually a almost like he found out that you could buy cannabis accessories in india at like 10 of the

Starting point is 00:14:22 costs as what he could sell them for in canada so he almost just became a small middleman there with a local shop and then just spurred on from there and he's had all these ideas on how to play the space he's been leading the company since its start you know i think almost 15 years ago at least over 10 years ago now i'm curious what you think ryan do you do you think his kind of the bubble period of you know the stock going from ten dollars to one dollars one dollar share is good it's good that you know the founder experienced that the whole time was leading the company and perhaps now has grown up as he's aged and you know gotten older and more mature yeah i think it's a good thing being able to have gone through this and for one been you're

Starting point is 00:15:11 going to talk about it here in a second but be cash flow positive through this is one a good stress test for the business so it's not like the sometimes you see a company where it seems like stock sentiment and business performance is tight at the hip true yeah this doesn't seem to be the case uh hopefully he will have learned that just acquiring companies that will especially ones that are not core to the business especially at this size is not really the way to go even in bubble periods so i seem to realize that cbd was not as big as people thought yeah yeah so disappointed that they did that. I think going through this certainly helps them or will help him take more of a sober approach to capital allocation and kind of focus on the core

Starting point is 00:16:03 business, at least from the outside looking in. That's what it seems like they've done. Yeah, exactly. Exactly. And I do like how he talks about free cash flow now, as opposed to building a cannabis empire. But what is interesting about this story is when the stocks started going down and you know as the the bubble popped in 2021 canna cabana started running a free discount loyalty program which had not been tried in canna canadian cannabis until then and this was kind of their the one thing that they figured out that has worked extremely well and they just pushed it and pushed and pushed it and used this model and it's how they've you know had so much success. I mean, maybe it's because the sector is so fragmented, but it doesn't seem

Starting point is 00:16:53 like some sort of revolutionary model. I mean, look, this is the stuff a lot of companies do. You join their loyalty program, you join their membership program, and they give you discounts. But if you look at what happened with their market share since this launch, it basically went from maybe we'll call it 5% to 12%. So clearly worked. And then in late 2022, they began selling a Cabana Elite paid membership, all capitals, which I think is funny, driving a true discount membership model somewhat in the Costco mold. Now, I know that they're not exactly like Costco, because Costco is different in the fact that you can only shop there if you pay the annual subscription. So it's different, but Canna Cabana is using some of the principles here to hopefully

Starting point is 00:17:42 drive recurring spend, you know, all the things that make the Costco model work and growth really took off. After this new discount loyalty program was launched, they are now at 1.55 million Cabana club members, which is the free one and 57,000 elite members who pay $35 a year. Management says they want to bring that annual fee up to $50 to $60 over time, just because they've seen such strong demand and they actually bumped it from 30 to 35 with no, you know, if we look at the chart, the elite membership since launch, which I'll have in the newsletter, growth has accelerated in 2024, which is nice to see. And it's not going to be like if you do, let's say they have what, 100,000 people paying $60 a year, that's $6 million. So it's not like, I guess,

Starting point is 00:18:37 compared to their market cap, it's a decent amount of money, but it's not going to be a huge needle mover. It's more of getting those recurring customers, getting those loyal customers. And as we see with the market share hitting 12%, it's worked. And this is the big reason why the stock price has recovered. We're seeing it in the underlying financial statements now on their income statement, if we exclude some of those write-downs that they're doing in the free cash flow, Tana Cabana is by far now the leading retail brand in Canadian cannabis and the big driver of the high tide business today. Yeah, there's a lot of benefits that come from running a paid loyalty program. So for starters, it's high margin revenue. So Brett just outlined there

Starting point is 00:19:20 potentially $6 million, I think you said on 60,000 members at $100 or was it reversed 100,000 members at 60? Yeah. I'm saying that as a hypothetical. Right now they have 57,000 who pay $35 a year, but if we're just extrapolating some number, I was just trying to do some mental math there on what it could look like and what it probably will look like within a few years. Yeah. So for starters there, you get high margin revenue, which for a retailer specifically, You see this with – people talk about this with Costco all the time about how it's like 1% of their sales, but it's a good chunk of their profits. It's kind of changed a little bit, but basically the membership is high margins. But the other thing you get out of the free – I don't think too highly of the free loyalty program because everyone kind of has that.

Starting point is 00:20:07 But the elite member status, when someone pays $35, $40, maybe if they're able to bump it up to $50 a year, that's a commitment essentially from them to say, I'm going to go back here. Because you've now paid $50 a year. If you're choosing between Canna Cabana and another retailer, you almost have this sunk cost fallacy where you're thinking, well, I'm already committed there, so I've got to go. I've got to make my reward or the money I've laid out to be a part of the rewards program worthwhile. So it builds a little more customer loyalty in a market where that might not be that common. Yeah, I agree. And what's interesting is they are further investing in the elite program, the paid program, which I like. I think at the beginning of this year, they had about 10% of their inventory tied to discounts for elite members.

Starting point is 00:21:01 But they're going to bump that up to about 20% to 30%, hopefully, over the next couple of years, which will hopefully convince more of those existing customers to join the paid membership. And I would like them to push into that over time, just because you can't really call yourself the Costco of cannabis if you have a free loyalty program. The key is in the paid membership model. Yeah, the analogy is stretched here, but I like the idea of just a retailer with a paid loyalty program. Yes, you could at least make the comparison, I guess, to Costco. So let's talk a little bit about the regulatory landscape for most investors. That is probably the first thing that comes to mind when they hear cannabis stock. So how has the regulatory landscape developed?

Starting point is 00:21:51 Where is it at today? And what kind of cyclicality has the cannabis industry overall seen? Yeah, so this one's going to be talking specifically about the Canadian cannabis market. We'll talk about international expansion and legalization in another section. But if we look at Canadian cannabis market, it's been oversupplied now for around, I actually wrote two years now, it should be at least four years, if these charts are telling us anything. Average selling prices have collapsed for, say, what, like per kilogram, per pound or whatever, as too many stores were open after legalization, while also dealing with a still large illegal market. And cyclicality has been brutal and hurt a ton of players in this space. And in a time of high inflation for Canada, so we've seen basically their CPI or whatever they call it there. If you index it to zero or a hundred in 2019, it's just gone up and to the right. But if you index the price of cannabis since 2019, it's gone down and to the right.

Starting point is 00:22:51 And Ryan's showing this here. This is a pretty hard one to, the chart was so big, at least on my computer screen, that was hard to see, but it's gone in the opposite way of inflation. There was some good, from this article I found, there was some really good data on the amount of stores out there and how these average selling prices and oversupply has impacted some of the mom and pop shops. So here are the quotes. There are more than 3,600 authorized cannabis stores in Canada, with 1,939 in Ontario, according to the Alcohol and Gaming Commission. This number does not account for unauthorized stores or the illegal market. Second quote, when I started working here, there were five stores within three blocks, said Zoe Ammo, an employee at

Starting point is 00:23:37 one plant, Glebe, a cannabis dispensary. Now there are only three because the others went out of business. So it seems like a classic capital cycle where we're seeing oversupply and then low prices are the cause of, you know, low prices are the cure of low prices because we're seeing a, you know, reduction in the amount of retailers and all this stuff. What's interesting, though, is despite these headwinds, High Tide and Canna Cabana have shown the phenomenal growth we're seeing, you know, in same store sales, market share gains, the loyalty program.

Starting point is 00:24:10 And in fact, I think this cannabis bust will benefit them over the long term. You know, competitors are going to go out of business and they will be able to acquire them with these distressed retail locations and turn them into a Canna Cabana. And then if cannabis prices go up, I think High Tide will benefit. But, you know, it's not, they don't own a lot of the brands that they're selling in their stores. So it's a little bit different than being a grower and having that impacted. But it's probably a better position because you're not as impacted by commodity prices. You know, you just have to have a slight markup there.

Starting point is 00:24:44 But, you know, they do have some of the white label stuff in the queen of bud now. So maybe it'll help them a bit. The thing is, though, despite this deflationary bust, unit economics for their stores have remained strong and free cash flow is now positive. And regulatory actions within Canada seem to me to be pointing in a positive direction. In Ontario, a company can now own 150 retail cannabis locations, you know, 150 over, you know, under one brand versus 75 previously. I think that's probably bumped up specifically for high tide. There's really no one else that will benefit.

Starting point is 00:25:17 And regulators in the province have been giving a large budget to crack down on illegal sales. It's going to take a while, but I would say illegal should become a much smaller part of the market over time. I mean, no one is drinking bootleg liquor anymore, but I bet they were five years after prohibition was lifted. Historically, now one final note here that I think is important. Canna Cabana has under indexed to Ontario, which that's the biggest province, right? That's Toronto. In the next few years, this will change because as I mentioned, they are, the cap was 75 locations and now it's 150 for a single company. and management has said they're going to reinvest and add more stores to this province where they've

Starting point is 00:25:59 under indexed. Ontario locations do around $3.47 million in annual sales per store or average unit volumes AUVs compared to $2.27 million in Alberta. So more Ontario equals higher AUVs, at least I would think, for the company as they expand, which is something to note when you're modeling growth for the stock yeah makes sense and for anyone that's thinking oh well you know they've got to compete against the illegal or illicit sales just think about where the cannabis industry was 10 15 years ago relative to today if you're uh above the legal age chances are you're probably going to a legal place a legal dispensary because there are a lot more safety and security benefits i imagine to shopping out of canada cabana as opposed to buying things illicitly so

Starting point is 00:26:54 yeah at least compared to the u.s i mean the u.s has some ridiculous rules where they have to carry like all the cash on hand at the stores which is just like a bullseye sign on them for robberies it's just a ridiculous rule um but in canada i'm sure it's it's safer yeah you didn't know that ryan they can't did not there's no no credit cards at dispensaries in the united states so So it's just like once these criminals learn these rules, they go, okay, well, I guess we're targeting these places. They literally have to use armored vehicles for some of these cannabis dispensaries, but that's different. Canada Cabana doesn't have that issue since they're in Canada. No, and if anything, that speaks to probably the benefits of being part of a larger company.

Starting point is 00:27:36 If you're a solo operator and you're the one that has to pay for security and stuff like that to fend off any crime, you're at a disadvantage relative to the larger player. Let's talk about growth though. What kind of growth are you expecting for Canada Cabana or high tide I should say in Canada specifically because we're going to talk about international expansion in a sec. This episode is brought to you by our friends at Yellow Brick Investing. Yellowbrick is an aggregator of the best stock pitches across the internet by tracking thousands of blogs, newsletters, fund letters, podcasts, and more that collect and summarize the best stock pitches and bring them to you in a single place. If you're a regular listener, you know that we use Yellowbrick every single week here on the podcast to discover new investments or

Starting point is 00:28:22 just find reports on companies we've already heard of. Try it for yourself. Simply go to joinyellowbrick.com slash chitchat and search a company or ticker you are interested in. you are bound to find a great report on just about any company that's join yellowbrick.com slash chitchat heads up folks interest rates are falling but you can still lock in a six percent or higher yield with a diversified portfolio of high yield and investment grade corporate bonds on public.com you might want to act fast because your yield isn't locked in until the time of purchase. Lock in a 6% or higher yield with a bond account only at public.com forward slash chitchat stocks. Yeah. And let me mention here that we are recording this early and it's before

Starting point is 00:29:13 the Q, whatever the latest earnings is going to be. So that's going to be out before this. So if anything radically changes with that, just know that that's not going to be in the quick model I'm doing here. So how am I modeling growth in Canada? I'm really focusing on Canada Cabana. I'm ignoring everything else. And I'm going to assume that management is correct that they can get to 300 retail locations compared to the current 188. And if you look at the total stores in Canada, what is it? 4,000, something like that across the Canadian market. There's plenty of room for Canada Cabana to reach 300 stores, if not larger. And I believe these market share gains can continue. They gave out a good note that in Alberta, which is their most densely penetrated

Starting point is 00:29:57 market from a store count perspective, they're at a 19% market share. So I'd assume that at least they can get close to that across the whole country once they scale up and at least get more of these locations in Ontario. And I just don't think that the market share gains are going to be at the same aggressive rate of the last few years. Yeah, I think we can hit 15%, maybe 20% eventually. Sure. But assuming that they're going to be a monopoly in this market, I just don't think that happens in retail concepts. They can be the market share leader, but it's not going to be something that's a winner take all space. I'd expect strong same store sales growth to continue. And I estimate the model I'm using here is 10% AUV growth,

Starting point is 00:30:42 which is revenue per store in both 2025 and 2026, followed by 5% growth in the two years following that. That would bring us to around $3.47 million in total revenue per store in 2028. And I have a table outlining all of this in the newsletter. I expect their store level EBITDA margin to remain at 12%, which is today's level. Sure, maybe. I think that's probably fair. It's not like they have too many costs that can change things here. Even though the price of cannabis has declined a bunch you know that can maybe help them with uh like some of their input costs and if it goes up if you kind of get what i mean like since the price of canvas has declined you could argue there was a little bit of a benefit just because it's more attractive to the customers but on the

Starting point is 00:31:28 other hand like the whole i don't know a lot of the retailers have collapsed because of this and it seems to be a headwind for a lot of these retailers just because there was so much there's just too many store locations out there when there was this boom and then bubble collapsed. And when I look at how one of these stores is run, there's low inventory turnover. There's not high volume needs. You don't need a ton of employees. There aren't too many commodity costs that can impact you. Compared to a restaurant, it's a lot simpler. And I think the unit economics are going to be much more stable i mean look opening a new store costs just 260 000 i think that's canadian dollars but still not that big of a difference and they're doing 2.6 million dollars

Starting point is 00:32:16 in revenue per store right now i mean margins aren't that great but they're good and that's why the store level even to margin the reason i talk about that is i think assuming you can stay at 12 is is fair yeah that makes sense only only other thing is you said low uh inventory turnover i think you just meant a high yes high inventory turnover yeah it does turn over quite quickly so i guess why don't you get to the final numbers here you're expecting your model goes out to 2028 here what do you think's achievable for them yeah let me just mentioned that they have positive net cash on the balance sheet, and they're generating positive free cash flow now. So I have no concerns about any balance sheet impairment or high interest

Starting point is 00:33:04 expenses just bringing down this. And I think store level EBITDA is a pretty good metric for how much cash can be sent up to the parent company for overhead costs, new store openings, interest payments, taxes, and eventually returning cash to shareholders. And under these assumptions, which I'll reiterate, I have, oh, I didn't mention that store count growth is going to be, or excuse me, total stores will go from 188 in 2024 to 329 in 2028. Not insane growth and something that I think is doable. We'll have revenue per store growing at what I talked about, 10%, 10%, and then 5% and 5%. Store level EBITDA margin of 12%. That leads them to be trading at 6.1 times 2024 store level EBITDA estimates and 2.6 times 2028 store level EBITDA. I think that

Starting point is 00:33:59 looks pretty cheap. Now, Ryan, I'm showing there'll be some of these charts here on the newsletter. Interest expense is about $11 million a year. Free cash flows up to $26.6 million a year and has been inflected since at least the beginning of 2023. Do any of

Starting point is 00:34:19 these estimates feel off to you? Do you think store-level EBITDA makes sense? Any concerns? No, I think the profitability

Starting point is 00:34:27 for each store, I don't see any reason why it shouldn't be able to remain where it is today. So that's

Starting point is 00:34:35 what you've got in your model here. Store count growth, I buy the store count growth story for them because

Starting point is 00:34:41 they are dealing with or they're competing primarily with not necessarily underperforming operators but less advantaged operators the solo operators yeah distressed that have to basically their fixed costs are just higher as a percentage and they don't have the uh shared resources like that of a larger company like high tide so i i believe they are going to be able to continue to grow their store count and the proof's in the pudding there. They've done a good job thus far. And if they move and a lot of that store count comes from the Ontario area, then yeah, you

Starting point is 00:35:20 should likely see a higher revenue per store across the board. So I think that all makes sense. It checks out. And just to repeat the numbers there for listeners that may have missed it, that's 6.1 times 2024 store level EBITDA, the enterprise value. So that's next year, which is, I think, I guess, yeah, forward the finishing up 2024 now. So 6.1 times, yeah, it looks very cheap.

Starting point is 00:35:51 2.6 times 2028, that's a little more speculative. But obviously, if things go well, that would look cheap as well. Why don't we, I guess, question for you. the interest expense. Is that just debt that they're using to open new stores? Yeah. I mean, they've had debt historically. They've taken on some debt. I'm going to be honest. I don't have the exact details of the debt in front of me, but one of the nice things about, and it's a good lead-in to talk about our sponsor, Finchat.io, is that I could pull up a chart of their interest expense, easily visualize it, see that it's about $11.4 million over the

Starting point is 00:36:30 last 12 months, something that's stabilized and that they do have net cash on the balance sheet. So you can use all these charts. And then I pulled up free cash flow and saw it was $26 million and the fact that they've paid down some of their debt. All of that I was able to do on FinChat.io. So go check them out. Use our link FinChat.io slash chitchat and get yourself a 15% discount. Save yourself on one of those annual subscriptions, a good chunk of change. The link is in the show notes there. But yeah, to answer your question, they've used the debt before they free cash flow positive. And I would hope that given how it's probably fairly expensive, especially given that they're a smaller company, Canadian company, they haven't historically been

Starting point is 00:37:11 that profitable. The debt's probably pretty expensive and we could probably pull it up there. Or at least I could pull it up. I probably should have the exact interest rate. I would hope that they pay that down, especially because they're positive net cash now. and either way it's not a concern and i think that they may try to refinance this they may try to do whatever i know management actually mentioned taking on more debt to fuel store expansion i would hope they don't see the need to do that given that their capital needs for new stores aren't that much you know 260 000 i mean you can grow pretty quickly with just your internal free cash flow. Either way, it's not a concern, nothing that I would get too worried

Starting point is 00:37:54 about. Now, the one question someone might have, though, is over $1 billion in annual sales, which is what I have on my 2028 estimates, is that achievable just in Canada? You know, I think they are. By 2028, the Canadian legal market is expected to reach $6.5 billion in annual sales. $1 billion in sales is close to that 15% market share estimate I have. and I would think they can get to maybe even higher than 15% market share given their numbers in Canada. And these estimates don't really, they don't factor in too much growth, which I like, because I think sometimes we extrapolate the demand for cannabis and act like it's going to be as big as, I don't know, coffee. And I just don't think that's the case. I think it's more

Starting point is 00:38:43 of a niche market than people are assuming but even if we do assume that the numbers look fine i think there's plenty of room for high tide to continue growing with the canna cabana model all right let's talk international expansion what's in the cards here yeah well we talk about regulation you know the canadian one has been a blessing for them but it can also be a curse you know how regulators are regulation keeps competitors at bay but it also hamstrings your growth. And I think back in 2018, which is when Canada fully legalized cannabis around the country, you may have thought that other countries would immediately follow suit. I think that's why some of that cannabis bubble, that's why it formed. I mean,

Starting point is 00:39:26 the Canadian legalization spurred on that bubble to boom and then pop. The United States, you know, you think they would do it given how popular that initiative is politically. I mean, it is like the majority of people want it legalized which will lead to you know dominoes to fall in other western markets but this hasn't really happened you know for reasons that are above my pay grade and ryan's pay grade cannabis is still illegal in the united states on a federal level it's curious why why that is but i everyone can have their own theories of why that hasn't happened yet some of the states have legalized it but it's extremely difficult to get banking set up which we already talked about you know you have those things that just cause so much

Starting point is 00:40:06 trouble for the industry. You have all these mom and pop shops with the huge bullseyes on their heads to get robbed because they have to transact in a bunch of cash and keep cash on their premises. It's not an ideal operating environment. Luckily, Canada does not have these issues. But overall, the cannabis laws, they seem tricky, illogical, overly complicated, unpredictable. And I think betting on countries legalizing cannabis in a rational way doesn't feel smart. For example, Germany just technically legalized cannabis. But if you look at how restrictive the law is, right now, Canna Cabana could not operate there. And there's supposed to be some new legislation to allow retail concepts. but right now it is a country where cannabis is legal to grow which if you try to grow it yourself i mean that's a huge undertaking you know what are you going to do grow it in your closet

Starting point is 00:41:04 uh and it's it's legal to grow and use but not legal to sell at a retail outlet at least as of this writing and as of this recording so it's just like the government wants to incentivize illegal sellers to be wildly profitable. I don't know, besides the point for Canna Cabana, but I think it shows how uncertain the legalization stuff is and why betting on that and why betting on international markets opening up for high tide is not something I want to put into my model, but maybe is a cherry on top. Hey, look, if federal legalization happens in a rational way in the United States, that would be huge for Canna Cabana. That would probably 5x 6x 10x their total addressable market but am i betting on that happening anytime soon i don't

Starting point is 00:41:54 know it it hasn't happened since 2018 and nothing's really changed about people's views on the product so i don't know are you it's good follow up are you sure that regulations and rules and the system in place in canada are better than four in the states then we we talked about a lot of the concerns and the lack of predictability and illogical uh restrictions on the market here in the u.s and germany and probably some other international markets as well okay it's clearly better yeah i mean the yeah i don't need to go through all the stuff on the very they do have province level stuff that can be tricky but yeah it's definitely better for operators okay all right let's talk i guess anything else there on the international expansion it sounds like you're

Starting point is 00:42:52 basically saying not factoring in but great if it happens yeah i guess they talk about if the new germany legislation comes through the potential to expand there and that's probably the closest one because if they cannot get the ability to open up retail locations, well, it's already legal to use. So there is a pretty, you know, the bar is lower than in the United States. And the United States, they're not going to operate in because one, if they start selling cannabis in the United States, they're going to get delisted from the NASDAQ.

Starting point is 00:43:26 And they don't want that. And it also just comes with too much trouble as we talked about. But in Germany, hey, we could get there soon. Maybe, I don't know. You know, the population is much bigger than Canada. It seems like the usage, I saw some figures that about 4 million people in the country use cannabis out of like 80 million. So it seems like a pretty good number, pretty sizable figure there. But the fact that this current, like, the first laws they put in were so illogical and restrictive, I just, I don't want to bet on Germany becoming this huge new market for Kanakabana. Like, are we really going to bet on European legislators being logical? I don't, or regulators being logical?

Starting point is 00:44:09 Come on. That's not something we should do. And it doesn't matter. They can still win just in Canada. And I'd honestly like them to just focus on the market for now. Yeah, that makes sense. Focusing on the core business seems like the right thing to do, especially at their size. Let's talk the retail model overall, though. Do you think this business has a moat? And what will you be watching to, I guess, monitor the development of that moat? All right, listeners, we've got a new sponsor here on Chit Chat Stocks. The name is Blue Chippers Club. Blue Chippers Club was recently started by two friends of ours with the goal

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Starting point is 00:45:31 The link will also be in the description. Yeah. Do they have a moat now? Maybe. If anything, though, this is one where you're betting on a moat forming over a five to 10 year period. And that's you're not you're not betting on, you know, the comeback of an existing moat or something. You know what I mean? And I think looking at them, it's clear the concept has promise given the market share gains and the fact that they are reinvesting into this concept of the loyalty program and the paid membership program, I think will work and should pay benefits. And if I want to own this stock, I will be, you know, as an investor, you want to track whether this retail moat is expanding or contracting or stable or just fine. Because if it is, you know, the earnings should be good and they should follow suit. And I believe for Canada

Starting point is 00:46:29 Cabana, it's a pretty easily understandable moat to track. You know, they pride themselves on having everyday low prices for its members and having a wide, you know, inventory. We have seen this work in other retail concepts and at big box stores. We're seeing the proof already work with Kanakabana, and I see no reason why they won't continue. Now, there are some companies, maybe not just a few, that have, quote unquote, operating principles, but they don't really follow them. I think that's one of the things you need to track as an investor and be skeptical about. And if Kanakabana is actually following these operating principles, I think we'll see

Starting point is 00:47:09 consistent comparable sales growth, probably above the overall Canadian cannabis market. you know, you're going to see continued loyalty plus membership growth and steady gross margins. Gross margins expanding too quickly would actually be a bad thing. You know, if they're calling themselves the Costco of cannabis, management shouldn't know that maintaining a low gross margin at increasing scale is how you build and expand your moat. Don't want to say scaled economy shared, but that's essentially the principle. And the loyalty and membership growth, well, that's not something that they can put in the financial statements. They can technically not tell you that.

Starting point is 00:47:51 The telling point will be whether they keep updating investors with these figures. And if they stop disclosing them, well, it's probably because growth has slowed down. And it's not a complicated model. They want to offer the best prices in cannabis with a wide selection of products, Have the membership program to incentivize people to regular shop with them and give them these discounts, which I think it's already proven it can do profitably. And because of increasing scale, if they use this model and the scaled economy shared stuff, they will be able to, you know, each year further widen the gap between their prices and the mom and pop shops. Okay, let's go through the valuation. all that makes sense i agree let's talk valuation is the stock cheap yeah this is what i mean look

Starting point is 00:48:45 clearly looks cheap you know trades at ev to free cash flow of about 13 at the time of this recording it's about two weeks before we're releasing this uh net income is negative right now because of restructuring charges and asset write downs but i have a little rhetorical question here how are all those cbd acquisitions going probably not so great i think it's telling they don't talk about those anymore. And I would hope that they learned their lesson and got a little sober on that. But you know, look, despite those struggles and those write downs, the core Tana Cabana business is generating a lot of cash that is now accumulating on the balance sheet. And with the company's growth prospects, 13 times free cash flow is attractive. And it's free cash

Starting point is 00:49:27 flow that is technically slightly depressed because of their reinvesting in new locations to up their store count. I think free cash flow could easily double in a few years, even if management is still reinvesting in new locations. We talked about it above, six times their current store level EBITDA estimate, and 2.7 times 2028 figures based on my estimates. I think all these figures are plausible. And if they can double their free cash flow, a free cash flow keeps growing. They could probably generate half of the market cap in cash over the next five years, which is something that you don't really see within high growth companies usually. So I think that the numbers clearly are attractive,

Starting point is 00:50:19 but there are two concerns I really have. I don't know if you technically call it the valuation work, but it should be included in how you kind of weigh the risk reward analysis this when thinking, okay, how risky is buying this stock? What would keep this stock from the numbers, you know, materializing, but the stock really not doing that well, or the numbers not materializing? First one is, what is management going to do with this free cash flow? In 2021, management, I think, damaged its reputation by making a lot of dumb acquisitions. Now that the company is generating cash flow and the stock is starting to soar again, perhaps the same thing will occur i'm not sure i i would like proof from management in you know

Starting point is 00:51:02 repetitive communications and their actions that they will you know either pay down the debt return cash to shareholders or further reinvest in new locations if the opportunity presents itself but i want them focused on that and that only and if i see any sort of nonsense acquisitions it's kind of like you know all right fool me once right uh shame on you what is it fool me once shame on you shame on me yeah that that would be oh yeah yeah sorry i got it backwards yeah fool me once shame on you fool me twice shame on me yeah it is concerning to some degree about the acquisitions because you think okay maybe that's in the past they're generating cash flow now but It's a legitimate question.

Starting point is 00:51:50 What are they going to do? Because the second question you ask is important too, which is – I'm not going to spoil it here. But if they aren't able to reinvest that much anymore, are they going to decide to give it back to shareholders or are they going to be in this empire building mode where they're trying to build the biggest cannabis company possible, which means a bunch of poor acquisitions? yeah and look they've made a lot of progress over the last two years and i think rebuilding that reputation i don't think this is a risk that should totally keep you out of the stock but it's something to watch out for and they have that it's the same founder so he had he seemed to have things got a little bit away of himself or ahead of himself there and yeah look most acquisitions don't work so hey i'm not talking about acquiring those retail locations

Starting point is 00:52:44 because that's just part of the existing operating strategy almost i'm talking about these adjacent ones like cbd companies at 40 million dollars luckily those are in all stock um so today doesn't look as bad but cbd was 40 million one of them was yeah oh my gosh i missed that all right that's in all stock i think um you know not as expensive now but still you know they're not making those today and remember the queen of bug one is just a million dollars that that makes much more sense for them yeah what's the second concern you have my second concern is how large large of a market is this the canadian cannabis market according to the statista estimates is estimated to hit around 6.5 billion dollars in 2028 not really that much growth from today uh people say

Starting point is 00:53:37 the u.s market is estimated to be around 30 billion dollars right now and some estimates say that will double by the end of the decade. I kind of call BS on that one, on the doubling part. I mean, where is the growth coming from? Like, are we going to have that many more people switch to using these products? We live in a state that it's been legal

Starting point is 00:53:59 for maybe 10, 15 years now. And it's not something that is used by a vast majority of the population. No, just legalizing it does not, doesn't necessarily enhance the addressable market like maybe people maybe people that were on the fringes and didn't buy ads regularly now it's a little more accessible but it's not like oh it's legal now everyone else is going to use it and buy it so yeah i do i have some skepticism around the figure doubling this decade yeah and the good thing though is that's the u.s

Starting point is 00:54:34 and canada cabana doesn't really even play there let me for anyone that's really optimistic about cannabis growth. Let me flip this around. If cannabis is such a growth industry, why has the Canadian market been oversupplied since 2019? I don't think you can answer that question. But as we close out here, I still think Canada Cabana has done really well to take share in this market. They've done well, you know, their income statement and their unit economics look fine, even with such a bad operating environment right now. They have acquired a great brand in Queen of Bud, and they have this loyalty program and membership model that works, that they can reinvest in, that can hopefully be, and I know these are buzzwords, flywheel,

Starting point is 00:55:23 economies of scale, scale economy shared, blah, blah, blah. But I think there is some, it is working, regardless of how you describe it and what framework you used. and they trade at 13 times free cash flow and six times store-level EBITDA. I'm on the fence on whether to buy shares. Maybe, well, I wrote this, that I might make the decision during this episode. When I wrote my notes,

Starting point is 00:55:48 I said I'm leaning to keep it on the watch list for now. I think that's still true. I could definitely see myself owning shares. Maybe it's one that would work better for someone that has a starter position model. which I don't at the moment. That's not how I run my portfolio. So if you have stuff that is half a percent position,

Starting point is 00:56:09 1% positions, that might make sense for high tide. I could... The thing is, though, I could see the stock being a really good multi-bagger if things work out for them. Yeah. Yeah, I could see that as well. I find it encouraging that the stores are so cheap

Starting point is 00:56:28 to get up and running. like the per store economics are really good it looks like yeah i mean 250 000 or whatever it is to open a store all you need is four walls a couple display cases and you've already got the supplier connections through the parent company so much easier than a restaurant so much way easier than even a coffee shop yeah it i like the model i like the growth the blueprint that they've been able to replicate store after store but i think i'd have to get more comfortable with management i'd probably have to read through i guess maybe the recent calls and see how things have changed relative to 2021 if he does if the ceo here and the team yeah if it feels more sober

Starting point is 00:57:20 in terms of capital allocation and they really feel focused on the core business i think a starter position could be okay yeah i think i think it's one where like i'm not immediately sold on it so the way maybe this can kind of we can close things out with a quick discussion on how you like i don't know do portfolio management and weighing your ideas this is one where i think i need to rank or force rank my existing holdings and then look at the bottom one or two and then compare them to canna cabana or sorry high tide and say look what one do i like better and maybe if i really like high tide more than my least favorite holding that i actually own okay maybe i can switch it out

Starting point is 00:58:08 but if you're someone that has like starter positions then maybe you just add some but that's not how i do things either way i like high risk high reward stock looks pretty attractive um ryan yeah anything else before we close up was this two three weeks ago now as of record as of this being published we looked at david gardner and his one rule his biggest rule was is it a top dog and an important emerging industry i think this is it is the top dog important it's a it's it is a fairly large industry relative to their size industry it is somewhat big and i guess you could people make the case that it's emerging i think it's been emerging for a little while so i don't think this is this summer new market with massive yeah with massive implications

Starting point is 00:59:03 But I think it kind of checks that box and it sounds like the regulatory landscape is much more favorable in Canada, which is very nice. I'm definitely interested, but I think that's going to do it unless you have any more comments, any more thoughts on Hightide. Yeah, I think that's it. I mean, I guess for the listeners, if you're someone that's going to buy this, just know that, you know, don't follow what we do. This is just for research. These are episodes that sound like we're making recommendations here, but I'm not buying today. I guess I usually do portfolio updates across our newsletter and Twitter.

Starting point is 00:59:43 So if you really care about that, I do that like once a quarter. But to sum up with Hightide, as Ryan mentioned, it is the leading brand. It's an emerging brand. And industry is, we have some, you know, concerns about the stock looks cheap and it looks like a high risk, high reward potential opportunity. And I'm going to be interested in following this one for the next couple of years, at least not owning it than talking about on the podcast and lamenting if the stock goes up 5X, 6X, 7X from here.

Starting point is 01:00:14 All right. Well, I think that's going to do it. Thank you all for tuning in and listening to this episode of Chit Chat Stocks. As Brett mentioned, there'll be charts on the Substack. We also have plenty of conversation going on there as well. So go ahead and check it out. It's Chit Chat Stocks Substack. Just Google it.

Starting point is 01:00:31 You'll find it. The link will also be in our show notes. Thanks again to all our sponsors for sponsoring this episode. Now time for the disclosure. Thank you all for tuning in. Brett and I are not financial advisors. Anything we say or discuss here on Chit Chat Stocks is not formal advice or recommendation. Brett and I may buy, sell, or hold any of the stocks or securities discussed in this podcast.

Starting point is 01:00:54 Thank you one more time for tuning in, and we'll see you all next time.

Chit Chat Stocks - High Tide: A Cannabis Stock Dominating the Canadian Market (Ticker: HITI)

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