Canopy Growth: BioSteel Funding Ceased To Stem Cash Burn, but Likely Hurts Potential Sale Price

On Sept. 14, no-moat Canopy Growth WEED announced that it had immediately ceased funding of BioSteel Sports Nutrition, which has entered bankruptcy protection. This announcement followed comments made during Canopy’s fiscal first-quarter earnings release last month in which it stated that it was pursuing strategic options, including the potential sale, of BioSteel. Most likely, the decision to put it into bankruptcy protection signals that there was insufficient buyer interest. Moreover, although Canopy’s actions on BioSteel will stem its cash burn, we also think it is likely to hurt the valuation of any potential sale. Thus, we don’t expect a major change to our fair value estimates of $0.80 and CAD 0.90.

Shares were up 13% intraday as the market celebrated the immediate reduction in cash burn. But such a sharp reaction to a relatively minor event reinforces our Extreme Morningstar Uncertainty Rating, as the volatility reflects Canopy’s distressed state. We still think there’s a significant risk of dilution for equity holders as the company deals with nearing maturities and continued cash outflows.

In the first fiscal quarter, BioSteel was Canopy’s second-largest segment by revenue, trailing only Canadian cannabis. Additionally, it was by far the fastest growing, with sales increasing 137% year over year. However, despite all that top-line growth, the segment struggled to generate profits, with a gross margin of negative 24% in the quarter, nearly twice as bad as that of a year ago. Given this result, we do not anticipate significant sales interest. Further, with Canopy shutting off all funding, it’s hard to see how sales growth can continue. Thus, any potential buyer faces a daunting challenge to generate a positive return on investment.