Is The Hydropothecary Corporation an Ideal Dance Partner For Molson Coors Brewing Co?

Benjamin A. Smith
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The Molson Coors Brewing Co Class B (NYSE:TAP) has a bit of a growth problem, and The Hydropothecary Corporation (CVE:THCX might be able to help. With moribund top-line sales growth across all regions continuing to hammer the stock price, is it just a matter of time before Molson Coors delves into ancillary growth markets? Specifically, could the cannabis sector—via The Hydropothecary Corp or like acquisition—provide the ideal segue to boost top-line sales growth in an industry facing long-term growth challenges? We explore.

If the past 18 months of systematically declining stock performance haven’t convinced investors of the challenges facing Molson Coors, recent earnings undoubtedly have. Following their recent Q1 2018 release May 3, the company’s stock tanked ↓15.40% to 4-year lows, exacerbated by low or declining growth in all regions.

How bad was it? Let’s just say it was hard to find any areas of strength for the iconic brewmaster.

Molson Coors Canada net sales dipped 2.5% to $283.8 million in Canada, while brand volume fell 3.3% on account of soft industry performance as well as elevated inventories at Quebec. In the U.S., brand volume decreased 3.8% accountable to soft Premium Light volumes; segment net sales dropped 5.8% to $1,647.8 million. And internationally, segment net sales careened seven percent to $57.5 million. Net sales per hectoliter, on a brand-volume basis, dipped 0.5% on a currency-neutral basis, as improved pricing couldn’t offset losses from lower sales mix.

What little “growth” there was to be had (Europe) barely moved the needle. While financial volume increased one percent QoQ, segment reported net sales still declined 1.9% to $374.3 million, and underlying EBITDA cratered 65.2% year over year to $24.5 million. Yikes.

As per Molson Coors outlook, the company appears to be focused on improving its income statement through a mix of cost savings and top-line growth initiatives through its through its First Choice commercial excellence plans. While there’s little reason to doubt the company can improve cash flow by driving more operational efficiencies to the bottom line, what about top line growth? Can the company’s “First Choice” initiatives credibly move the needle?

Whatever plans management has to increase advertisement spending, improve packaging or increase visibility on store shelves, the fact remains that beer (alcoholic beverage) consumption remains in a cyclical, low-growth death spiral. Quite simply, demographics and shifting consumer preferences do not lend itself to a quick turnaround. The increasingly diverse mix of populations—many with cultures that frown upon alcohol consumption—is an inextricable reality the industry must face.

Even where such attitudes aren’t an obstacle, young people increasingly seem to prefer cannabis as their go-to recreational substance of choice. Even older people are increasingly turning to marijuana.

In a nutshell, Canopy CEO Bruce Linton may have framed cannabis’ use case best when he recently said:

I think the big driver will be is, imagine working with Constellation (multinational beer, wine and spirits conglomerate) and creating a set of beverages, and rather than being driven by calories and alcohol, you can actually deliver what probably turns into a little euphoria, a little pleasantness and no extra calories.

It’s exactly that type of promise Molson Coors is up against. Small quantities of cannabis can deliver a unique no-calorie buzz many people enjoy, while delivering analgesic & anxiolytic qualities beer simply cannot match at reasonable quantities. And to top things off, the cannabis hangover is much more forgiving.

For these reasons, reversing course on flagging beer sales will prove to be a daunting task. Spirits (beer in particular) simply does not provide enough ancillary benefits to draw consumers away from cannabis on a wholesale level. Thus, if you buy into this thesis, it stands to reason that Molson Coors will eventually look at developing cannabis-infused beer to jump start growth.

Not only is it a natural progression, it’s about innovating or becoming second-fiddle to other operators who will.

Enter The Hydropotherapy Corporation

In reality, you could probably substitute The Hydropothecary Corporation with a myriad of other cannabis companies Molson Coors may or may not be interested in. But when looked at from a logical point of view, this union makes sense on a number of levels.

The first one being culture. Molson Brewery is perhaps Quebec’s oldest or foremost corporate entities, complete with 230-plus years of operating history in the province, and a still-significant presence in Montreal, where the company was founded in 1786. The Molson Family has helped lead the beloved Montreal Canadiens to multiple Stanley Cups, and in fact purchased a majority interest in the team in 2009. In short, The Molson family is a Quebec institution, through and through.

In much the same vein—albeit with about 228 years less operating history—Hydropothecary is cut from the same cloth. While most cannabis companies are focused on expanding operations to multiple jurisdictions, Hydropothecary has been meticulously disciplined in growing its operations in the province of Quebec. According to CEO Sebastien Saint Louis, the company’s inter-provincial focus is perhaps the main reason why Société des alcools du Québec (SAQ) designated Hydropothecary with “preferred supplier” status in the province, in a deal which could ultimately be worth $1 billion.

https://www.youtube.com/watch?v=CYs2RLx8Cho&t=44s

The Hydropothecary Corporation CEO Sebastien St. Louis talks about how his company’s Quebec-centric focus helped snag preferential supply agreements with SAQ

Focusing and investing locally does have its advantages, as the Molson Family found out 233 years ago.

Secondly, Hydropothecary’s primary 250,000 square foot grow facility is strategically located in the center of the prime southern Ontario-Quebec City corridor, in Gatineau, Quebec. At its peak, the facility will yield 25,000kg of cannabis per annum. This proximity lends itself well for accessible corporate and R&D interactions between both companies, as the cannabis edibles and beverages market presumably becomes legal in Canada in 2019.

Most importantly, Molson Coors and The Hydropothecary Corporation have complementary characteristics both companies need to propel their respective businesses to the next level.

For Molson Coors, Hydropothecary offers a suite of products geared towards the cannabis user. While none of these are beverage-related at the moment, presumably, the crossover potential to liquid infusables is significant. Moreover, Hydropothecary is actively developing a product which can get consumers “high” for one hour, before dropping back to baseline.

How much value would such a product entail in the beer industry, where the effects of getting “drunk” take several hours to dissipate? Such a product could re-invigorate the tavern scene by allowing users to drive to their destinations once more (saving cost and hassle). The marketing department would have a field day with such expanding use cases, assuming eventual Health Canada/FDA approval takes place.

For Hydropothecary, Molson Coors has all the distribution channels needed to propel its brand to the next level. Now that the company has mastered the Quebec market,  Hydropothecary Corporation CEO Sebastien St. Louis is on record indicating that international expansion plans are on the horizon. What better way to gain access to the U.S., Europe and South America than by partnering up with the world’s seventh largest brewer?

Entering a chosen jurisdiction is one thing. Garnering retail shelf visibility and pricing competitiveness that volume distribution entails is a completely different animal. That’s something that only Molson Coors (or like partnership) can bring them henceforth.

Final Thoughts

As we saw with Constellation Brands’ $245 million investment in Canopy Growth last October, some Big Alcohol players are taking a forward-looking approach when it comes to product development. The trends regarding consumer trends are clear and unmistakable—beyond the parameters better marketing and increased advertising spends can fix.

While Molson Coors are certainly better positioned to understand their markets better than I ever could, it’s difficult to understand how a partnership with The Hydropothecary Corp (or alternative cannabis company) doesn’t make sense. With a market capitalization of $950 million dollars, the market still isn’t prohibitively expensive for Molson Coors to enter.

While the company only ended Q1 with $197.9 million cash and cash equivalents stacked against $11 billion in debt, one can presume financial maneuverability isn’t exactly limitless. However, much like Constellation Brands, Molson Coors could opt for a minority partnership with the possibility of expansion should certain milestone be achieved.

In theory, a 33% partnership with Hydropothecary might only set them back $30-$50 million in cash and perhaps 5 million preferred shares; with the excitement generated from such a partnership offsetting the dilutive effects on Molson’s share price. Although such financing are usually undertaken on the way up, given Molson’s moribund growth prospects, the deal still makes sense in the here & now.

Time will tell which way the cannabis consolidation winds blow. But from where I sit, a Molson Coors-Hydropothecary partnership makes too much top-line sense not to be considered.

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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