Interest Lights Up in CannTrust After Talks of Going on the Block

CannTrust Holdings Inc.  (CTST)  is finally bringing in some bargain shoppers as the stock moves higher by 7% after the company announced it was considering selling itself.

The company announced Wednesday that its special committee has hired Greenhill & Co. Canada Ltd. to assist in a review of strategic alternatives. The company said that those options include a sale of the company, a merger or changes to strategy. The interim CEO Robert Marcovitch has said the talks are happening at a conversation level only at this time.

Numerous potential candidates to acquire the company have been tossed around. They are the usual suspects that have been on buying binges like Canopy Growth (CGC) , Aurora Cannabis (ACB) , Aphria (APHA) or Tilray (TLRY) . However, if Health Canada takes away CannTrusts' licenses then the facilities are the main asset.

CannTrust has been in a death spiral following news that the company grew cannabis in unlicensed rooms with the acknowledgement of senior management. There are also accusations of insider trading from board members. All of the bad news has combined to destroy the company's valuation with the 52-week high for the stock at $11.97 and the year low dipping to $1.87. It was lately trading at $2.34 as value buyers stepped up to the plate.

The were signs of smoke back in November, when the company's former CFO Ian Abramowitz noted that there were "deficiencies" in the company's disclosure record in a letter to the Ontario Securities Commission. He said the company had agreed to take "remedial steps" to address them. Board member and interim CEO Robert Marcovitch said those issues had been addressed, but didn't say what they were. Abramowitz left the CFO post in February to become a senior vice president. He was replaced by Greg Guyatt.

However, the real trouble began a few weeks ago when CannTrust admitted that it received a Health Canada audit that said its Pelham Ontario greenhouse facility was not in compliance. The regulator found that the company was growing cannabis in five unlicensed rooms and that inaccurate information was given to the regulator by CannTrust employees. The cultivation happened between October 2018 and March 2019. CannTrust said that it accepted Health Canada's non-compliance finding and took actions to ensure current and future compliance. Ironically, CannTrust received the licenses on the rooms in April, but by then the damage was done

The timing of leadership change also looks unusual in that the company CEO Eric Paul stepped down in October and was named chairman of the board. He was replaced by Peter Aceto, who was just fired "with cause" by the board. It was learned that Aceto was aware of the illegal growing and condoned it. A former employee Nick Lalonde told Bloomberg News that he was "instructed to put up fake walls to obscure unlicensed plants in photos submitted to Health Canada."

Taking Stock

It is expected that since CannTrust was clear that Aceto was terminated "with cause" that he could lose the roughly $6.2 million he has in stock options. In addition to that, Canadian newspaper The Globe and Mail noted that former CEO Paul and board member Mark Litman sold approximately $4.5 million in company shares in November 2018, not long after learning about the illegal growing. So, insider trading accusations are now flying around the company.

Bank of America analyst Christopher Carey downgraded the stock to Underpeform from Buy and lowered his price target to $3.44 from $6.87. Carey suggested the events will have a material impact on the September-ending quarter sales and place pressure on sales going forward.

Sales Halted

Health Canada placed a hold on inventory, which includes approximately 5,200 kilograms of dried cannabis that was harvested in the previously unlicensed rooms in Pelham until it has decided that the company is compliant with regulations. For its part, CannTrust said it is voluntarily holding about 7,500 kilograms of dried cannabis equivalent at its Vaughan manufacturing facility that was produced in the previously unlicensed rooms. The company said it has suspended all sales and shipments for now and can't say how this will affect its financial statements. It is also unknown whether the company can release the cannabis being held for future sales or whether it will have to be destroyed.

Snitches Get Stitches 

It seems that the employees knew about the illegal growing and some were afraid to blow the whistle. A YouTube video on the CannTrust channel apparently showed the illegal rooms according to a story by the Financial Post. It seems that Lalonde might have been the former employee that told Health Canada about the video and the temporary walls. He told The Post "I did not know the room was unlicensed before I hung the poly walls, but then I started to suspect it, and investigated further."

The employees told The Post that they didn't want to be named because they feared CannTrust and didn't want their current employers (presumably another cannabis company) to think they were snitches.

Season of Selling

Cannabis stocks fell apart in the second quarter with The Green Market Report Cannabis Company Index falling 21%. The third quarter hasn't gotten off to a much better start, either. The CannTrust scandal and the $500 million write-down by TILT Holdings (TILT) right after the company went public have dampened investor's spirits. While CannTrust may be looking for a buyer, it isn't clear just yet if anyone has any interest.

At the time of publication, Borchardt had no positions in any securities mentioned.