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BevCanna - Emerging leader in infused beverage innovations

BevCanna (CNSX:BEV) - Emerging leader in infused beverage innovations
Early stage growth opportunity in cannabis

BevCanna Enterprises Inc (CNSX:BEV) offers investors an early-stage opportunity in the emerging market for legal cannabis products, primarily North America. The company’s vertically integrated strategy, from cultivation through to finished product, is focused on the infused beverages category, a nascent space that is anticipated to soon benefit from federal legalisation in Canada, which is scheduled for October 2019.

In this report, we provide an overview of BevCanna’s specialised capabilities and technologies. We conclude that BevCanna is a highly differentiated and scalable company, and a compelling opportunity.

Proven capabilities, world class facilities

The company has access to world-class facilities and infrastructure to support its beverage and bottling activities, including an onsite alkaline spring water aquifer, and a 40,000 square feet (sq. ft.) HACCP (Hazard Analysis and Critical Control Point)-certified (see p7) manufacturing facility with 72 million bottle capacity per shift / per annum, pre-approved for expansion up to 170,000 sq. ft.

The company also operates a Health Canada-licensed 130-acre outdoor cultivation site in the fertile Okanagan region in British Columbia. The first crop is expected in 2020. We include an overview of the cultivation operation and the key licences on p3.

The BevCanna management team comprises established beverage industry experts with experience building brands that reach a global market. Past successes from within the team include Mike’s Hard Lemonade, Vega, and Trace Beverages. BevCanna offers a turnkey white-label solution to produce a product for third parties, in addition to their own house brands. In August 2019 the company was awarded a research licence from Health Canada. Details of this important licence are on p2.

Also, the company has an active pipeline of further revenue opportunities in the form of joint venture and licensing with market-validated products and technologies in complementary or adjacent segments, including a unique water-soluble powder called Deeper Green, made with tetrahydrocannabinol (THC) or cannabidiol (CBD) derived from cannabis or hemp, being co-developed under a research partnership in California.

Financials

The following table summarises our financial forecasts. We argue that these forecasts would represent significant value creation.

Note: These forecasts depend on risk factors outside the control of BevCanna Enterprises. These forecasts are derived using the assumptions and methodologies of Proactive Research as an independent forecaster. Definitions are in the appendix on p13.

Year end Dec 31 Current 2020 2021 2022
         
Revenue (US$M) 0.50 39.40 53.70 58.80
EBITDA (CA$m) (2.0) 10.1 15.1 14.4
Net Cash/(debt) (CA$m) 3.6 8.2 29.7 52.4
         
 

Four revenue streams driving strong growth in the near/medium term

The company intends to derive revenue from three main streams:

White label beverage manufacturing

BevCanna offers a turnkey manufacturing solution for the cannabis beverage sector. This is an end-to-end offering, including cultivation, processing and infusion, an alkaline spring water source, product development, bottling and packaging. The company has discussions ongoing with licensed producers (LPs).

In August 2019 the company was awarded a research licence by Health Canada. The licence enables BevCanna to move ahead with research activities that involve direct handling of cannabis such as stability testing, sensory evaluation and quality assurance for house brands and white label clients. The licence allows BevCanna to test cannabinoid infusion equipment on their bottling line, as well as in a lab environment, optimising their precise dosing technology as it scales-up towards full commercialisation in 2020. Stability trials will also now commence on BevCanna’s two recently announced trade-marked brands intended for commercialisation in Canada, Grüv Beverages and Anarchist Mountain Beverages.

In-house beverage brands

The company has developed a range of innovative brands to be produced in-house. These include iced teas, botanical infusions, lemonade, and fruit-flavoured sparkling spring water, with a range of different CBD/THC profiles (definitions on p4) and formats (ready-to-drink, shots, and powdered drink mixes). When such products are legalised, we believe that an in-house range of products will allow BevCanna to capture a greater share of margin and revenue throughout the supply chain and build greater equity over time.

Proprietary water-soluble powder

BevCanna is developing a soluble cannabis powder with a partner company in California, which BevCanna intends to sell under its house brands, and to business-to-business (B2B) partners as a base ingredient for formulation in adjacent categories such as edibles. Using a powdered additive is expected to allow manufacturers to deliver a homogeneous end product, with consistent CBD/THC levels, and no impact on the flavour of their products. This product format affords additional advantages in distribution and retail such as not requiring refrigeration, reduced weight for shipping, and longer shelf life.

The powder has undergone rigorous third-party testing (details p10) and the company is targeting commercialisation in the fourth quarter of 2019, if and when permitted by legalisation.

Cultivation

BevCanna holds a lease on a 130-acre cultivation site in British Columbia, within a prime agricultural region. In September 2019 the company signed an agreement with Clearwater CannGrow Ltd to produce certified organic sun-grown cannabis on the site. Clearwater CannGrow Ltd brings specific expertise in organic farming and outdoor cannabis cultivation. BevCanna intends to apply to upgrade its hemp cultivation licence to a cannabis licence and begin cultivation in 2020.

Looking further forward, the company could choose to seek additional acreage to expand its cultivation operation or could concentrate more resources on the beverage and other businesses.

Revenue opportunity

Assuming legalisation of the beverage and edible markets in Canada, we believe that beverages and edibles will become the fastest-growing segment in the cannabis space in the next few years, as consumers seek alternatives to combustibles or vapes.

Key licences

The company holds two important licences. Firstly, BevCanna holds a licence to cultivate industrial hemp on its 130-acre outdoor growing site. The company intends to convert this to a cannabis cultivation licence, with the intention that the first crop is planted in Spring 2020.

Secondly, the company holds the research licence from Health Canada, outlined on p2, and is in the final evidence package submission stage for its standard processing licence.

Legalisation in Canada and 11 USA states

The legal cannabis market

Some of the main data sources are listed at the foot of this section.

The legal cannabis market is a growing commercial space, following the initial stage of legalisation in Canada in October 2018, which has allowed the sale of cannabis in the form of fresh, dried flower and oil products, through licensed retailers.

In the USA, 11 states have also legalised the sale of recreational cannabis. Although federal law still poses some problems for producers and distributors in the US, especially for multi-state operations, there is nonetheless a growing marketplace of commercial providers operating in the legalised jurisdictions. More detail on the legal status is on p4-5.

In addition to the recreational market, there are also more widespread markets in North America and globally for medical cannabis and for cannabis-derived products targeting consumer health/wellbeing, including hemp-derived CBD. A summary of these products is on p4-5.

Sales of legal cannabis have been growing in North America in recent years, and we expect this to continue, as more products become available and gain consumer acceptance. Furthermore, we expect US federal law to fully accommodate state laws at some point in the coming years, allowing companies to operate without impediment in those states that allow cannabis. The following chart shows our forecast for the legal cannabis industry.

Legal cannabis market outlook - North America
 
Source: Proactive Research

The pathway to legalisation

There are three main product categories to be considered, which have separate legal statuses.

Medical

Cannabis can be used to treat various medical conditions, including chronic pain, muscle spasms, and certain types of epilepsy, as well as stimulating appetite in some people with severe illnesses. There are 33 US states that allow medical cannabis, as does Canada, and several other countries including Australia, Italy, and Germany.

 

Products derived from cannabis, and containing extracts such as cannabidiol (CBD) have been shown to have health benefits anecdotally and in preliminary research

 

Consumer health/wellness – No THC, products such as non-intoxicating CBD

Products derived from cannabis and containing extracts such as cannabidiol (CBD) have been shown to have health benefits anecdotally and in preliminary research, with outcomes such as improved sleep, pain management and reduced anxiety. Importantly these products contain no more than trace levels (<0.3%) of tetrahydrocannabinol (THC), which is the intoxicating compound producing a “euphoric high” in users. Because of the lack of THC, these CBD infused products provide greater accessibility to a wider variety of consumers and consumption occasions. CBD and similar products are legal in many jurisdictions globally, including the UK and Australia. In the UK, for example, CBD products are widely sold in high-street health stores.

CBD products are legal in Canada. In the US, hemp-derived CBD products containing less than 0.3% THC are not classified as controlled substances and therefore are not illegal under federal law; however, the Food and Drug Administration (FDA) has not yet awarded hemp-derived CBD a classification as a food product, and therefore the availability of CBD products still varies state-by-state.

Recreational

Recreational cannabis products do contain THC and are intended to give users a psychoactive experience; there are laws prohibiting these products in many countries.

In Canada, recreational cannabis was legalised in 2018, and a wide variety of products are available through licensed retailers.

In the USA, 11 states have legalised recreational cannabis. Federal law still does not allow recreational cannabis, but the federal authorities have so far followed a policy of non-intervention in states that are allowing recreational cannabis.

The following infographic summarises some of the key milestones in cannabis legalisation in North America.

 

Timeline of North American cannabis legislation
 
Source: Proactive Research

 

Future milestones Canada:

In Canada, the major remaining legislative milestone is the legalisation of cannabis extracts and infused products, including beverages, edibles and vapes. Currently, adults are allowed to use dried flower for infusion into food or beverages in their own home, but retailers cannot legally sell these products. New legislation is scheduled for passage on October 17, 2019, which will allow for infused products - with regulated levels of THC - to be sold through retail outlets. This is important for BevCanna given the company’s focus and proven expertise in the regulated, natural health, and traditional beverage sector.

Important milestones USA:

The Farm Act of 2018 has meant that CBD-type products for the consumer health market are no longer treated as controlled substances; however, the FDA has still yet to provide these products with a designation as a food product. Products are becoming widely available in many states, but FDA approval and legislation will be critical in allowing CBD products to gain further market acceptance.

In terms of recreational cannabis, US federal law still does not accommodate state-level legalisation. In spite of this cannabis enterprises continue to operate freely in the 11 states that have legalised cannabis, albeit these enterprises still face some material obstacles to business, such as access to banking facilities. We believe that the 2020 congressional and presidential elections could provide a further forum to debate reforming federal law to fully accommodate the rights of non-prohibition states.

The following map shows the legal status of cannabis in the 50 states.

 

Legality of cannabis by US state
 
Source: Business insider

 

Some of the main information sources for the previous section include:

The Guardian 06 June 2018: “All eyes on Canada as first G7 nation prepares to make marijuana legal”

Health Europa 10 September 2019: “New regulations will see cannabis edibles and oils hit Canadian shelves”

Wall Street Journal 09 May 2019: “Cashing in on cannabis” (and several WSJ articles linked on the same thread on WSJ.com)

Brooking Institution 14 December 2018: “The Farm bill, hemp legalization, and the status of CBD; an explainer”

World class facilities, and proven leadership in building brands that resonate

BevCanna operations

There are two main value drivers for BevCanna: the Canadian operation that focuses on developing and producing beverages, alongside a cultivation site that is intended to provide low cost* biomass for extraction and infusion into their product lines; and the US operation including a research partnership to develop water-soluble powder to expand their product development and commercialisation capabilities.

*Some details on the cost aspect on p9-10.

Key partnerships in Canada - Naturo Springs, NextLeaf

Canadian operations

Within its Canadian operation, and upon legalisation, BevCanna intends to offer turnkey white-label manufacturing solutions for clients in the cannabis infused beverage space and is developing its own in-house range of cannabis beverage brands. BevCanna offers a proven track record in spring water processing, flavour infusion, bottling, packaging and distribution. The company operates from a 40,000 square foot HACCP-certified* bottling facility, with its own alkaline spring water aquifer, and has a management team with established expertise in delivering market-leading brands in the beverage space.

*HACCP certification is an international standard defining the requirements for effective control of food safety. HACCP certification instantly demonstrates to customers a commitment to producing or trading in safe food. This evidence-based approach can be particularly beneficial when a manufacturer is subject to inspection by regulatory authorities or stakeholders.

A BevCanna proprietary brand
 
Source: BevCanna
A BevCanna proprietary brand
 
Source: BevCanna

Key to delivering these capabilities is BevCanna’s partnership with Naturo Springs Inc, a British Columbia company that owns a range of mineral-water based drink brands, and NextLeaf, BevCanna’s exclusive supplier of water-soluble cannabinoid distillates.

Naturo Springs partnership

BevCanna holds a 10-year (with two 10-year renewal options) exclusive lease and manufacturing licence agreement with Naturo Springs of British Columbia and its parent company Naturo Group Investments Inc. Naturo has successfully launched and commercialised several product lines, including Naturo Aqua, and the first Health Canada-approved plant-based functional water beverage, Trace Beverages, which is infused with fulvic and humic plant-based minerals. Naturo’s beverage brands have more than 2,200 points of distribution throughout Canada, including 7/11, London Drugs, Loblaws and Metro Markets.

Under the agreements, BevCanna has access to Naturo’s 40,000 sq.ft. world-class bottling facility, with a capacity of 72 million bottles per shift per annum, and its premium alkaline spring water source at the same site. The alkaline spring water aquifer is a valuable asset; the Government of Canada has placed a moratorium on issuing future comparable water licences.

NextLeaf partnership

Creating a cannabis infusion is a different process in comparison to adding fruit or herbal flavourings. To create a consistent and stable range of beverages, BevCanna has partnered with NextLeaf, a Vancouver-based cannabis company with patented technologies for extracting and processing cannabinoids. The target for BevCanna’s formulations is to ensure that every sip is the same. This is important for the overall consumer experience to provide reliable, repeatable, and trustworthy products.

BevCanna has an exclusive supply agreement in place with NextLeaf that allows BevCanna to use NextLeaf’s technology and to co-develop further capabilities for use in BevCanna’s in house brands and white-labelling activities. Nextleaf holds a U.S. patent for industrial-scale extraction and purification of cannabinoids. Nextleaf owns a portfolio of eight issued and 25 pending patents pertaining to the production of high-purity cannabinoid distillate, the precursor used in the manufacturing of standardised THC and CBD-based products. BevCanna has an exclusive agreement with Nextleaf for high purity water-soluble distillate in Canada, which means BevCanna is the only beverage producer allowed to infuse its products with Nextleaf’s technology; however, the company and/or any of its white label clients have the option to use any infusion method should they wish.

BevCanna holds a 10-year lease on a 100-acre cultivation strip at the same location as the bottling facility

Products – own brands

BevCanna has announced two brands as in-house products for the cannabis beverage market, with two further brands in the pipeline.

“Anarchist Mountain”, named after the mountain on which the production site is located, is a THC-dominant blend suited for social occasions. The range of flavours is botanically based and inspired by plants growing in the Pacific Northwest.

“Grüv” represents a range of easy-to-drink cannabis-infused iced teas, with a balanced CBD/THC profile designed for broad-based appeal, aimed at consumers seeking relaxation as well as a refreshing drink.

Canada operations - cultivation

BevCanna holds a 10-year lease (with two 10-year renewal options) on a 130-acre cultivation strip at the same location as the bottling facility. The site is located in British Columbia’s Okanagan region, which is a renowned wine-growing region. We also note that British Columbia has a longstanding reputation for the quality of its cannabis, even going back to the days of the illicit trade. Investors can find numerous articles online regarding the quality and reputation of BC cannabis (e.g. “BC Bud: A household name”, Vancouver Sun, 30 January 2015).

In September 2019 the company reached an agreement with Clearwater CannGrow Ltd to produce certified organic sun-grown cannabis on the site. Clearwater CannGrow Ltd brings specific expertise in organic farming and outdoor cannabis cultivation. The company obtained a licence from Health Canada in June 2019 for the cultivation of hemp that would be suitable for CBD extraction. The deal with Clearwater CannGrow envisages production of cannabis (containing more THC), and BevCanna will now begin the process of obtaining this licence, to achieve the first harvest in 2020.

Our revenue forecast for the group (see p2) shows revenue from cultivation beginning in 2020, increasing in 2021, and then decreasing in 2022. In volume terms, we are forecasting an increase in 2021 and then a constant volume of production; however, in terms of price we are assuming that the wholesale cannabis spot rate will decline after 2020, as more production enters the market place. The following table shows our assumptions for the cannabis spot price. This is the price for dried flower product, using historic data ranges (from published quarterly data) from the Colorado Department of Revenue.

We note that future revenues and profits will exhibit strong sensitivity to the market price of cannabis, and if the market price should fall by more (or less) than our assumption then this would drive a material revision to our profit & loss forecasts. Other factors such as cost inputs are also subject to uncertainty.

Our assumptions for wholesale prices
 
Source: 2018 and 2019 historic from the Colorado Department of Revenue. Forward assumptions by Proactive Research

Highly cost competitive in cultivation

Importantly, we believe that the outdoor cultivation model has a production cost perhaps one-fifth of the level of indoor cultivation and could, therefore, remain competitive even if the raw commodity price begins to decline as per our assumption.

Some information sources regarding the economics of outdoor cultivation include:

“Cannabis can be grown outdoors for pennies on the dollar”, Financial Post, 09 May 2019

“How much does it cost to produce cannabis outside versus inside?” PartisanIssues.com, 27 June 2018.

The bottling facility and cultivation strip - near Osoyoos B.C.
 
Source: BevCanna

US activities

The USA is a large and growing market for cannabis products with 11 states allowing cannabis for recreational use. BevCanna is exploring various joint ventures and licensing arrangements to access this market. The most advanced opportunity is a research and development agreement that was signed in April 2019 with Greener Frontiers based in California, for the development of ready‐to‐drink cannabis‐infused beverages using the proprietary technology being developed for water‐soluble cannabis powder called Deeper Green.

During the third quarter (Q3) of 2019, Deeper Green underwent third-party, independent laboratory testing in California. It has been proven to be a stable ingredient that consistently delivers THC at target concentrations within one batch (±0.3%) and from batch-to-batch (±0.6%). Additionally, the test has confirmed that Deeper Green precisely infuses with granular drink mixes (±0.4%) and ready-to-drink (RTD) beverages (±0.3%). Based on these results, we would expect Deeper Green to be able to pass the Cannabis Compliance Regulations set in California (±10%). These regulations are referenced on p13. BevCanna intends to commercialise both powder + RTD formats in California recreational retail outlets during Q4 2019.

BevCanna holds an option to acquire all the intellectual property of Greener Frontiers related to their technology for water‐soluble cannabis powder, linked to various performance milestones for the product. The option may be exercised by BevCanna, and the consideration may be paid by BevCanna, subject to compliance with applicable securities laws and stock exchange policies, up to a value of US$4.8mln, with payment partly in shares and partly in cash. This structure allows the current owners of Greener Frontiers to retain an equity interest and allows BevCanna to gain a valuable entry point into the US market.

 

 

 

 

 

Capital-light business model

Financials

 

 

 

 

 

One of the key differentiators for BevCanna, relative to the wider listed cannabis space, is a business model of low capital intensity, relative to current industry standards. With substantial bottling capacity and infrastructure in place, any further increases to manufacturing capacity will represent a relatively modest investment requirement, and the working capital cycle for this type of business is short.

Furthermore, we believe that BevCanna can make the transition to positive profit margins over a short time frame as revenues ramp up, allowing the business to become self-funding within two years.

BevCanna’s biggest operating asset on the balance sheet is the licence agreement to access the bottling plant and aquifer. In addition to this, the company has an option to acquire the intellectual property to the water-soluble cannabinoid powder known as Deeper Green, assuming this proceeds to plan, and the intellectual property acquisition may be paid by BevCanna in common shares of the company, subject to compliance with applicable securities laws and stock exchange policies, as noted above.

The following chart shows our forecast for asset turnover.

Asset turnover
 
Source: Proactive Research

The next steps

The following table shows the next important milestones in BevCanna’s development.

 
 
Source: Proactive Research

We believe that any of these developments could represent a positive catalyst for significant revenue generation in 2020 and beyond.

Conclusions

Assuming receipt of licences and legalisation of cannabis-infused beverages and edibles, we believe that BevCanna has the capabilities and resources to deliver rapid growth in the 2019-2021 timescale. The management team has the right experience to execute on fast-track commercialisation of consumer brands and products.

Looking out to our 2021 and 2022 revenue forecasts we believe that successful delivery on these metrics could drive a substantial value increase in BevCanna.

The following table shows revenue and market cap for selected peers.

Relevant peers
 
Source: 1) SPR unaudited FY results to y/e Feb 2019. 2) WTER unaudited FY results to y/e March 2019. 3) DIXI unaudited FY results to y/e Dec 2018. 4) PLUS unaudited FY results to y/e Dec 2018. 5) Market caps from Bloomberg and CSE data as of Oct 02 2019

Appendix 1

The compliance regulations referred to on p12 are as follows:

BUREAU OF CANNABIS CONTROL TEXT OF REGULATIONS

CALIFORNIA CODE OF REGULATIONS

TITLE 16

DIVISION 42. BUREAU OF CANNABIS CONTROL

§ 5307.1 Quality-Assurance Review for Labeling Cannabinoids and Terpenoids.

(a) For purposes of this division, any one cannabinoid, Total THC, and/or Total CBD claimed to be present on a label shall not be considered inaccurate if the difference in percentage on the certificate of analysis is plus or minus 10.0%.

§ 5724. Cannabinoid Testing.

(d) The sample shall be deemed to have passed the cannabinoid testing if the following conditions are met: (1) For all edible cannabis products, the milligrams per serving for THC does not exceed 10 milligrams per serving.

Appendix 2: Definition of EBITDA

EBITDA is a measure of profitability defined as “Earnings Before Interest Tax Depreciation and Amortisation”. Furthermore we adopt a definition of EBITDA as excluding exceptional and one-off costs and excluding P&L charges for stock-based payments.

Quick facts: BevCanna Enterprises Inc

Price: 0.445 CAD

CSE:BEV
Market: CSE
Market Cap: $20.25 m
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