Organigram (OGI.TO)(OGI) shares surged on Thursday after the cannabis producer announced that a subsidiary of British American Tobacco (BAT) (BTI) will take a 19.9 per cent stake in the company. The partnership is the latest financial link between Canada's legal cannabis sector and a major global consumer goods firm.
Moncton, N.B.-based Organigram said the deal is worth approximately $221 million, and will see the cigarette giant acquire about 58.3 million shares at a price of $3.79, based on a five-day volume weighted average price on the TSX ending March 9.
Organigram said the move strengthens its balance sheet and better positions the company to enter the United States upon federal legalization. It also plans to accelerate product development in collaboration with BAT, with an initial focus on CBD. Under the deal, BAT is entitled to add two members to Organigram’s board.
The two firms will create a "Center of Excellence" at Organigram's facility in Moncton, funded equally by both parties. BAT will own the intellectual property rights for products developed at the new R&D facility, and Organigram will be granted a royalty-free licence under the terms of the agreement. Both companies will contribute scientists, researchers, and product developers.
Organigram said it plans to reserve $30 million in proceeds from the deal with BAT to pay for the product development collaboration. However, the bulk of the proceeds are earmarked for Organigram's international expansion and other investments.
"We've spoken to a number of different companies, beverage alcohol companies and consumer packaged goods companies. It's taken many, many months, and we definitely faced some challenges due to COVID in terms of not being able to do in-person facility tours and meetings,” Organigram chief executive officer Greg Engel told Yahoo Finance Canada on Thursday.
"But we're really excited about this. We both feel where cannabinoid delivery and bringing new products to markets is going is culturally aligned between the two companies."
BAT is the parent company behind popular cigarette brands including Lucky Strike, Pall Mall, Rothmans, and Camel, as well as other vapor and nicotine products. In 2019, CEO Jack Bowles announced the formation of a cannabis working group to expand the company's offerings. BAT introduced its first CBD vape products in January through a pilot project in Manchester, U.K. convenience stores.
The Organigram-BAT deal is not the first between a Canadian cannabis producer and a major tobacco firm. In 2018, Altria Group (MO) invested $2.4 billion in Cronos Group (CRON.TO)(CRON). In July 2019, Imperial Brands (IMB.L) invested $123 million in Auxly Cannabis (XLY.V). Booze giant Constellation Brands (STZ) became the first foreign blue chip company to buy an ownership stake in Canadian weed when it first invested in Canopy Growth (WEED.TO)(CGC) in 2017. Unlike a number of similar deals in the sector, Organigram's arrangement with BAT does not include a direct path for the company to increase its stake in the pot producer in the future.
Organigram enters the deal with BAT with strong scientific credentials. It was among the first Canadian companies to explore cannabinoid biosynthesis through an investment in Montreal-based Hyasynth in 2018. Engel, whose resume includes years of experience in biotechnology unrelated to cannabis, declined to give specifics on how BAT's IP portfolio will influence future products. He said the companies have a three-year plan that will begin with oral and vapor CBD applications.
Engel outlined three potential pathways that Organigram could take to the U.S. market post-federal legalization; direct entry, through a manufacturing contract with an American company, or with a partner.
"[That's] still to be determined," he said. "We're well capitalized now. We can look to set up our own company to invest or acquire a company in the future that's in that space. What you see with large [consumer packaged goods] companies is they commercialize certain products through a [cannabis] partner. You have to consider all the options on the table."
Once the deal closes, Organigram will have about $296 million in cash on its balance sheet. While U.S. federal law prevents Canadian cannabis companies from selling THC cannabis south of the border, a number of Organigram’s rivals have launched CBD brands ahead of a potential regulatory change.
“We believe the longer-term view of this partnership likely envisions an eventual expansion in the U.S. (where/when possible),” Canaccord Genuity analyst Matt Bottomley wrote in a research note on Thursday.
Organigram’s Toronto-listed stock gained 30.94 per cent to $4.74 per share at 2:02 p.m. ET, after climbing nearly 45 per cent in U.S. pre-market trading. U.S.-listed shares of British American Tobacco were little changed at $37.25.
Jeff Lagerquist is a senior reporter at Yahoo Finance Canada. Follow him on Twitter @jefflagerquist.