Sundial Growers Stock Surge Belies Challenges Facing Cannabis Player

It’s fair to say that year-to-date in 2021, I’ve been on the wrong side of Sundial Growers (NASDAQ:SNDL) and SNDL stock. Up 339% YTD through Feb. 12, the gains have helped put the cannabis grower in a better financial position.

image of multiple marijuana leaves
Source: Shutterstock

Sundial investors (and management) have the Reddit crowd to thank for the sudden interest. 

“It might be a good time to hop on the train for Sundial Growers while it’s still a little low. It’s only a penny stock but it is soaring as of right now,” posted someone who goes by u/Cruely8 on Reddit’s r/smallstreetbets on Feb. 10.

SNDL Stock Buoyed by Warrants

To be clear, the $74.5 million Series A and Series B unit offering done by the Calgary company was completed on Feb. 4 when it was only trading around $1.15, not the $2.08 it closed at ahead of the three-day Presidents Day weekend. Two days earlier, Sundial closed a $100 million offering of Series A and Series B units with an exercise price of 80 cents on the warrants. 

Because the warrants are exercisable immediately, the buyers in both offerings are already heavily in-the-money thanks to Reddit followers’ masterwork. 

Perhaps that’s why SNDL shares have fallen big since hitting a 52-week high of $3.96 at the Feb. 11 open. The units’ buyers are taking profits and going home, possibly leaving the little guy holding the (dime) bag once more. 

Loaded for bear with 617 million CAD ($488 million) and no debt, can the cannabis company take advantage of its newfound largesse? Or will it fritter away the cash on a poorly thought out acquisition?

Let’s consider both questions. 

Lots of Shares Sloshing Around

In its second offering, Sundial said it had 1.52 billion shares outstanding. That’s a whole lot of stock floating around for a company that had net revenue of just 47.1 million CAD through the first nine months of fiscal 2020.  

The worst part isn’t even the lack of sales through Q3 2020. It’s the fact that its sales in the third quarter fell by 54% to 12.9 million CAD. On an annualized basis, Sundial is trading at 54 times sales while using 151 million CAD in free cash flow over the past 12 months. 

The decrease is due to Sundial increasing its branded sales to Canadian provincial boards and reducing its bulk sales to other licensed producers. That’s a part of its move away from wholesale. It’s going to take time to rebuild those lost revenues. 

At this point, the smart play would be to continue working with the nine provinces it has supply agreements with to build market share slowly. Debt-free and cash in hand, now is not the time to be distracted by an acquisition search, closing and integration. That could easily waste 12-18 months of precious time. 

If management’s smart, it will focus on getting its premium products (flower, pre-rolls, and vapes) into the hands of more Canadian consumers. The foray into medical cannabis through its 50% stake in Pathway Rx seems like a stretch given how many larger firms are already servicing the Canadian marketplace. 

While it’s tempting to issue more stock while the price is elevated, we’ve seen what dilution means to share prices over the past two years. It’s not good. 

An Acquisition Makes Little Sense

An acquisition at this point would negate all the good work Sundial CEO Zach George has done to right the ship. 

“In February 2020, the global pandemic was just emerging, Sundial was running out of cash just two quarters after its IPO, and we were in breach of covenants under the terms of our senior secured credit facility,” George stated in December after completing its financial restructuring.

“Through a combination of asset sales, debt for equity swaps, capital raises, and cash repayments, we have eliminated $227 million in debt this year. Our financial restructuring is now complete, enabling us to bring greater focus to what really matters – delighting consumers.”

If an acquisition is announced in the next few months, unless it is 100% accretive to sales and earnings, I would run as fast as I could away from Sundial stock.

It would be a sure sign the CEO’s work at the end of 2020 was only to clear the decks to set in motion his own legacy and vision for the company. Empire building usually ends badly. 

Sundial, despite improving its balance sheet, is still burning through a lot of cash. One plus one, in this case, does not equal three. 

Maybe in 2022 or 2023, once the branded sales have grown sufficiently.

The Bottom Line

On Jan. 21, I argued that the risk-to-reward for SNDL stock wasn’t in your favor. It’s up 205% since. 

Was I wrong? 

I don’t think so. I will say that the company’s financial position is immeasurably stronger than when I wrote it. 

Still, the competition in the Canadian marketplace is intense. Several companies have made much bigger strides in market share, like Canopy Growth (NASDAQ:CGC), which is the leader in Canada with almost 16% of the sales volume

It’s okay to be a niche player. Empire building should not be in its plans. 

Speculative investors should wait for it to fall below $2 before taking a flyer on SNDL stock. I wouldn’t buy it, but that doesn’t mean you shouldn’t. 

On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article. 

Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia. 

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