Australian-listed specialist investment company Hygrovest Ltd (ASX:HGV, OTC:MMJJF) increased its Net Asset Value (NAV) per share before provision for deferred tax during April by around 23% to A$0.1355.
This was primarily due to a 50% increase in the Enterprise Value to Net Revenue Multiple (EV/NRM) used by HGV when valuing its investment in Canadian private company Weed Me Inc and followed media reports that the US Drug Enforcement Agency (DEA) would recommend that cannabis be re-scheduled from Schedule I to Schedule III.
Decrease since April 30
In its monthly Investment Manager update on HGV, HD Capital Partners said that as the DEA was yet to announce any recommendations to re-schedule cannabis from Schedule I to Schedule III, the EV/NRM multiple used by HGV when valuing its investment in Weed Me had decreased materially.
For example, HD said that between April 30, 2024, and May 3, 2024, that multiple had fallen by approximately 31% and warned that the reported month-end NTA was a point-in-time assessment only and that HGV’s NAV was constantly fluid.
A 15% discount is also applied by HD to the derived valuation multiple to account for the fact that Weed Me is unlisted.
The Investment Report from April 30 showed a Net Tangible Asset per share post-tax of A$0.1138, up from A$0.0950 at March 31, as well as a total Net Asset Value for HGV of A$29 million, up from A$23 million a month earlier with a Net Asset Value per share of A$0.1144 compared to A$0.0955.
Weed Me investment
HGV was a foundation investor in Weed Me in December 2017. Its investment in Weed Me comprises 4.24 million shares and represents approximately 13% of Weed Me’s issued capital.
At month's end, HGV had ascribed to these shares a valuation of C$3.40 per share.
HGV also holds 460,830 warrants each convertible at C$2.17 with an expiry date of October 29, 2024.
Positive development
HD said that during the month two significant developments impacted the cannabis industry – one positive and the other somewhat disappointing.
Should the media reports on the rescheduling of cannabis in the US be confirmed, HD said “it would be one of the most positive developments in the cannabis industry in years and one the market has been waiting a long time for”.
“Unsurprisingly, North American listed cannabis stocks reacted very positively in the month. The reason it is significant is that it would materially improve operating conditions for US cannabis industry participants,” HD said.
“For example, the stringent 280E tax laws (which prevent businesses selling Schedule I or II substances from tax deducting normal business expenses) would be removed. In practice, this would mean that US cannabis companies would move from being taxed at the gross profit level to the net profit level.
“In addition, it paves the way for further positive policy developments (eg SAFER Banking Act) and probably leads to expanded institutional investor interest in general.”
HD said that this was not yet a done deal and the market was “awaiting official confirmation from the DEA, followed by an ongoing process that would include potential legal challenges, a lengthy review process and then final approval from the Department of Justice before moving to be signed by the President. A US election in November could also impact the ultimate outcome.”
Industry downside
On the downside for the cannabis industry, HD said that the latest Canadian government budget made no changes to the existing excise tax policy, which was disappointing.
“Many were calling for change, as it would have meaningfully improved the profitability and cash flow of an industry that has been in financial distress for several years.
“Nevertheless, it is not necessarily a negative in the medium term. The excise tax structure is arguably only currently restrictive due to the very low market price of cannabis (vs the price when the policy was set) because of excessive investment and oversupply in prior years.
“Over time the market will likely work through this and reach a balance, and the profitable companies in the industry (like Weed Me) should survive and eventually benefit on the other side.”
Since HD became the company’s investment manager on July 1, 2023, the company’s investment strategy is no longer focused on cannabis companies. However, because of investments made prior to that date, HGV’s largest investments continue to be in the cannabis industry.
“As a result, the outcome for shareholders is largely going to be driven by how these businesses perform and HGV’s ability to successfully engineer exits from these businesses over time, which is our objective,” HD said.
“Continued favourable policy developments and the likelihood that it could lead to growing institutional investor interest and improved valuations, makes that objective more achievable.”
Other major investments
HGV became an investor in Southern Cannabis Holdings (SCH) in April 2018. Its investment in SCH comprises 21 million shares representing approximately 18% of SCH’s issued capital. At month end, HGV had ascribed to these shares a valuation of A$0.19 per share.
HGV was a foundation investor in Delivra Health Brands Inc. (TSX-V:DHB) (DHB). Its investment comprises 55,557,994 common shares representing a shareholding of approximately 18%.