#HARVEST HEALTH SERIES#

We think the valuation is fair given the issues we discussed above and the highly levered balance sheet. The company has a market cap of $1.1B and trades at 6.0x EV/Sales which is at the low-end of the peer set. Likely due to an aversion to diluting existing shareholders, the company used debt heavily in its acquisitions and funding operations which resulted in a stretched cash flow and balance sheet now. We think the company could have avoided too much borrowing by issuing more stock in early 2019 when it still had the chance. Therefore, without support from the capital markets, the company has been hamstrung with its tight liquidity and heavy debt load. Harvest had $320M of debt outstanding including out-of-the-money convertible debt and the average interest rate is around 10% which means that the company is spending ~$30M on interest expense annually alone. The company has reported decent financial performance but it's weighted down by the heavy debt load. While we have discussed the reasons behind Harvest's struggle, this level of relative underperformance has also presented an opportunity for outsized gains if Harvest could improve its performance. However, the underperformance has been significant with other MSOs soaring and the diversified cannabis ETF ( YOLO) rising 74% in the same period. In the chart below, the blue area line shows that Harvest stock only gained 5% in the last 12 months, which was only made possible after a ~50% rally in the last few weeks leading up to Georgia's Senate election. Harvest has underperformed its peers by a wide margin in the last 12 months.

This is likely why Harvest has been racking up debt to finance the ongoing operations and investments. The continued buildout of Harvest's Pennsylvania footprint, including the $26M acquisition of its only cultivation/production site in Pennsylvania, is taking a toll on its finances. With operating cash flows negative in most quarters, the business remains reliant on debt to fund its capital investments.

Looking at the cash flow of the business, it is clear that Harvest's operations remain cash flow negative. Gross margins remained consistent which indicates that its operational ramp-up has been smooth. The growth during 2020 is driven by an industry-wide demand boom as COVID-related stay at home restrictions boosted cannabis sales across the country. Harvest has reported strong financial results driven by its growing presence in two attractive markets as discussed above. Pennsylvania is another fast-growing market and we have seen companies like Green Thumb ( OTCQX:GTBIF ) and Curaleaf ( OTCPK:CURLF ) ramp up in the medical-only state as supply falls behind demand. Without Verano and after giving up the Californian assets, Harvest has been buying up licenses in Arizona which will begin recreational sales in 2021 following the successful 2020 ballot. Today's Harvest Health is a multi-state operator focused on its two core markets, Arizona and Pennsylvania, as its main business operations. Lastly, as a result of the previous two stumbles, Harvest has been capital constrained in its expansion and had to significantly scale back its operating footprint. Further, the acquisition of Interurban Capital Group in March 2020 for $86M was quickly reversed when Harvest flipped the Californian assets to Hightimes Holdings for $68M, likely a result of capital constraints that made its Californian expansion unviable. Secondly, the company terminated its acquisition of Verano that was supposed to give it access to important new markets such as Illinois and New Jersey, both expected to do very well in 2021. First of all, the company ran into issues with the Pennsylvania regulators that resulted in the forfeiture of two licenses and abandoning two already-built facilities. Harvest got itself into some troubles in 2020 which have had a devastating impact on its growth plans and capital markets performance. However, the stock has outperformed its peers since the November election which is a side effect of its depressed share prices and a broad-based rally in cannabis shares. We previously discussed reasons for its underperformance including its overly ambitious acquisition strategy backfiring when deals failed due to financing strains. Harvest Health ( OTCQX:HRVSF) had a lacklustre 2020 with its shares significantly underperforming its peers.

#HARVEST HEALTH SERIES#

Welcome to our Cannabis Earnings series where we break down the latest earnings to help you focus on the most important topics.

Harvest health