U.S. MSOs are Extremely Undervalued Relative to Other Industry Groups
The chart shows Enterprise Value to 2023 consensus EBITDA multiples on the vertical axis against 2021-2023 Revenue CAGR on the horizontal axis for twelve different industries.
We explored this topic in the 10/19/21 Viridian Capital Chart of the Week and wanted to see the impact of the broader market selloff on cannabis's relative value.
We used data from 337 companies organized into 12 different industry categories. The assignment of companies into industry groupings follows the work of Aswath Damodaran, a noted finance professor at NYU. Valuation multiples and revenue growth rates were calculated by aggregating all companies in the industry group before calculating the respective ratios.
The top 11 MSOs by market cap collectively have an expected 30.0% compounded revenue growth rate for the next two years, second only to Hotels and Gaming. The group has a 4.8x EV/ 2023 consensus EBITDA multiple, significantly lower than any other industry group despite its 2023 EBITDA margin of 32.2%, the third-highest behind Tobacco (52.2%) and Pharmaceuticals (36.5%). We also note that cannabis is one of the more recession-resistant industries on the chart.
Even so, the combination of low multiples, high growth rates, and demand inelasticity understates the attractiveness of the cannabis MSOs. They are also the only group with several visible catalysts for multiple expansion:
Legalization Initiatives: Although we believe full legalization is still years away, Several banking reform/ uplisting bills are in discussion, which could increase the investor audience for cannabis and indirectly increase valuations.
Consolidation: We believe significant industry consolidation is still to come in cannabis. Even the largest MSOs are pretty small by American industry standards. The average EV of the largest 11 MSOs is only $1.5B compared to $23B, $36B, and $139B for the Alcohol, Pharmaceuticals, and Tobacco companies represented on the chart. A few significant M&A transactions or strategic investments from outside the industry could propel valuations upward.
The timing and exact nature of a catalyst are unknown, or they would already be baked into valuations. However, the chart above clarifies that a doubling or even tripling of valuation multiples would still only raise cannabis to the level of other industries with less growth potential and profitability.