The Second Cup Ltd Moves On Tim Horton’s By Diversifying Into Cannabis Dispensaries

Benjamin A. Smith
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In an effort to diversify a retail sales footprint dominated by rival Tim Horton’s, The Second Cup Ltd (TSE:SCU) (OTCMKTS:SCUPF) today announced they were entering the retail cannabis market.

The deal with National Access Cannabis Corp (CVE:NAC) (OTCMKTS:NACNF) (FRA:1HVestablishes a strategic alliance to develop and operate a network of NAC-branded recreational cannabis dispensaries across Western Canada (where legally applicable).

The plan calls for NAC to apply for licenses to dispense cannabis products in strategic locations where The Second Cup is already present. In 2016, the company operated 294 store locations nationwide—many of them in high volume locations. Clearly coveting these assets, NAC Chief Executive Officer Mark Goliger was quotes as saying, “With exceptional quality real estate located across Canada, our alliance with Second Cup will offer consumers access to quality cannabis products and the superior service in the comfortable setting they’ve come to expect from NAC”.

Hence, the value proposition from NAC’s standpoint is crystal clear. They get access to prime real estate (where laws permit), established and experienced franchise operators, and rapid-fire expansion prospects without having to develop extensive brick & mortar operations from the ground-up.

Furthermore, the cost perspective appears entirely palatable. NAC’s warrant issue only grants Second Cup the right to purchase an aggregate of 5,000,000 common shares of National Access Cannabis. The exercise price of $0.91 per common share is the same as yesterday’s closing price, and expire on April 12, 2023. In other words, the aggregate cost of consummating this agreement was only $4.55 million based on yesterday’s closing price.

Indeed, National Access Cannabis has already garnered short-term benefits of the deal, trading up ↑9.89%, or $1.00/share, in early trade.

Second Cup Makes a Bold and Necessary Decision

While NAC investors have responded favorably to today’s announcement, Second Cup could be the deal’s biggest benefactor. With retail sales growth vacillating between stall-speed and decline, the company was looking for a way to leverage prime real estate assets and increase shareholder value.

No more is this evidenced by these two charts below. The old axiom “A picture is worth a thousand words” certainly applies in this instance:

(Source: statista)

(Source: Yahoo! Finance Canada)

As we can see, The Second Cup has been trimming retail locations by closing unprofitable outlets. In the period between 2012-2016, the company shed 62 locations throughout Canada, for a decline of ↓17.42%.

In line with those numbers, gross product sales have been in free-fall, declining from $30.35M to $23.64M (↓22.12%) from 2016-2017 alone, and accelerating from the roughly 18-percent decline witnessed from 2015-2016. Predictably, net earnings have suffered a similar fate.

With financial metrics careening in the wrong direction, The Second Cup has a chance to re-tool select outlets by offering potentially higher margin and faster growing consumer offerings. It’s certainly worth a shot, because clearly competing head-to-head with the likes of Tim Horton’s, Starbucks and McDonald’s is not yielding desired results.

Shares in The Second Cup are soaring, up $0.84 to $3.59/share (↑30.55%). Volume is exceedingly heavy, with 765,000 shares trading hands—25x the average daily volume.

If early investor inflows are any indication, the street absolutely loves this deal. Judging by the metrics indicated above, it’s not hard to understand why.

Cannabis-Infused Coffee in the Offing?

As many cannabis users will probably convey, cannabis and coffee go together like chocolate and peanut butter. The interaction between cannabanoids and caffeine compliments each other’s stimulative properties, according to some. Although this is pure speculation on my part, one has to wonder whether today’s announced collaboration paves the way for Second Cup to develop coffee-infused menu items down the line.

Already, several cannabis companies are investing millions of dollars into research and development to achieve just that.

For example, mega-alcoholic beverages conglomerate Constellation brands invested $245 million CAD in exchange for a 9.9 percent stake in the Canopy Growth Corporation. The goal was to develop, distribute and market an array of cannabis-infused beverages when legalization of such products opens up in 2019. Similarily, MedReleaf is partnering with Toronto’s Amsterdam Brewing Co. for production of a 4:20 Pale Ale.

With companies rushing to develop palatable beverage options for a cannabis market almost as as wine in Canada, could your morning java be next?

Of course, entwining cannabis with coffee is something likely to be heavily scrutinized by regulators. Millions of Canadians drop by Tim Horton’s and Second Cup each day for their daily java fix—including the drive through window. Obviously, the government will be loathe to approve any product which threatens safety integrity of public roadways.

But cannabis isn’t all about Tetrahydrocannabinol (THC), or the psychoactive component of the drug. Perhaps a coffee-cannabis infused beverage would focus more on non-psychoactive CBD or flavor inclusion. Already, some micro retail coffee chains are dabbling in the idea, and it’s not hard to envision the concept catching on.

Time will tell if this is part of Second Cup’s, or Tim Horton’s, master plan.

 

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Benjamin A. Smith

Benjamin A. Smith

Ben is a research analyst and capital markets professional with nearly 20 years of experience. His areas of expertise are broad-based, and include extensive knowledge of macro economics, stock/derivative trading, commodity complexes, cryptocurrencies and technical/quant analysis. He also maintains an particular affinity for U.S. politics and the macro-regulatory environment facing...
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Midas Letter is provided as a source of information only, and is in no way to be construed as investment advice. James West, the author and publisher of the Midas Letter, is not authorized to provide investor advice, and provides this information only to readers who are interested in knowing what he is investing in and how he reaches such decisions.

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