A drop in company valuations complicated by the coronavirus-triggered capital squeeze hindered cannabis deal-making during the first half of 2020. However, experts say mergers and acquisitions in the fledgling industry will pick up heading into the new year.

Cannabis-related companies completed or announced 124 deals in the U.S. or Canada during the first seven months of 2020, less than half of the prior year's total for the same period and even further behind 2018's total, according to an analysis by S&P Global Market Intelligence. Capital raising for cannabis companies in 2020, meanwhile, continues to trail levels in either of the prior two years.

"M&A activity during the first half of this year has been quite subdued," Sherri Haskell, CEO and founder of angel investment consortium Canna Angels LLC, said in an interview. "I imagine that is going to accelerate greatly in the second half of the year and the first half of next year."

The quieter first half of 2020 was partly a product of an industry still reeling from the heady days of 2018 when cannabis valuations exploded. But in 2019, global cannabis stocks lost 70% of their value, according to Viridian Capital Advisors, leading many companies to re-think some deals.

An ongoing capital crunch for an industry still challenged by U.S. federal cannabis prohibition has helped fuel the launch of more special-purpose acquisition companies, or SPACs, focused on cannabis deals. The pandemic made it harder for cannabis companies to raise capital even as many localities designated dispensaries essential businesses and sales grew across the industry. Experts say recovering valuations for cannabis companies and renewed investor interest in the sector are likely to bolster more deal-making.

READ MORE: Sign up for our weekly coronavirus newsletter here, and read our latest coverage on the crisis here.

"The overhang is slowly wearing off," Steve Schuman, managing director at Halley Venture Partners, said in an interview. "We've had our greasy breakfast and a lot of Pedialyte, and now reality's starting to seep into our brains as we're trying to understand what the next phase of the industry looks like."

Deals

One of the factors behind the drop in M&A is the decline in valuations for the industry at large. Experts say this has resulted in a tougher environment to raise money and shifted the industry's focus to stronger balance sheets.

"When valuations are high, M&A activity is robust because it's less dilutive," Antony Radbod, a managing partner at Archytas Ventures, said in an interview. "Once that kind of goes away, that falls apart."

For the year-to-date period ending July 31, the 124 deals completed or announced in the cannabis space were worth a combined $615.1 million, according to Market Intelligence data. By comparison, 2019 had 249 completed or announced deals valued at $4.98 billion, according to Market Intelligence.

Meanwhile, cannabis companies backed out of 64 deals valued at a combined $649.7 million for the first half of 2020, compared to 92 terminated deals valued at $2.26 billion for all of 2019. Increased regulatory scrutiny and changing valuations have played a part in the cancellation of some deals.

Stock prices and market conditions have improved significantly since their low point in March, but cannabis stock prices are still about 25% down since the beginning of the year, according to a Viridian Capital Advisors report. "The partial recovery has brought back a bit of vigor to the capital raise and M&A activity in the industry," the report said.

The share price for ETF Managers Trust - ETFMG Alternative Harvest ETF, which invests broadly in global cannabis-related companies and tracks the general performance of the industry, was down 35.3% year-to-date as of Sept. 22.

Recent deals include Trulieve Cannabis Corp.'s Sept. 16 announcement of plans to acquire PurePenn LLC, a cannabis cultivator and producer, and Pioneer Leasing & Consulting LLC in one deal and another deal to acquire a dispensary operator called Keystone Relief Centers LLC that does business as Solevo Wellness. The two acquisitions have a combined value of $141 million, according to Market Intelligence, and will expand Trulieve's footprint into Pennsylvania.

Trulieve did not respond to questions from Market Intelligence about its M&A strategy.

Columbia Care Inc. completed Sept. 1 its acquisition of The Green Solution LLC, a large cannabis company in Colorado, in a deal valued at $162.8 million, according to Market Intelligence. Columbia Care on Sept. 8 announced plans for the $69 million purchase of Los Angeles-based Project Cannabis.

"It's a quickly consolidating market," Nicholas Vita, Columbia Care's vice-chairman and CEO, said in an interview. "We think M&A will continue at a pretty rapid pace."

A couple of "mega mergers" could happen, though not too many because there are not as many big companies in the cannabis industry, Schuman of Halley Venture Partners said. More medium or small deals are likely to be announced over the next six months, he said.

"There is a lot going on behind the scenes," Schuman said.

On the regulatory front, cannabis remains classified as an illegal drug by the U.S. federal government. At the same time, 42 states allow some form of legal cannabis use, according to DISA Global Solutions, which provides workplace safety and compliance services to companies. Meanwhile, Canada's government reported C$907.8 million in retail sales during the first year of legalization through September 2019.

Capital

A squeezed capital market remains a problem for the cannabis industry as it gears up for potential consolidation.

Cannabis-related companies in the U.S. and Canada raised $1.56 billion in common equity in the first seven months of 2020, compared with $5.87 billion for all of 2019, according to an analysis by Market Intelligence.

Another estimate by Viridian puts the figure for the first half of 2020 at $2.55 billion total capital raised from 166 raises. Viridian expects reduced valuations will drive investor interest in cannabis as consolidation efforts will fuel a need for capital.

Since the third quarter of 2019, cannabis SPAC initial public offerings have raised over $2 billion of capital, according to Viridian. SPACs, or blank check companies, typically raise money for deals that investors have to approve in a set period. SPACs are having something of a moment as a record number have completed IPOs in the U.S. in 2020.

Ceres Acquisition Corp. raised $120 million on March 3, just before the pandemic took hold. The broader economic calamity that resulted will likely create more opportunities for deals as companies look to sell off parts of their business to fund other things, Ceres Acquisition Corp. CEO Joe Crouthers said in an interview.

"There certainly are more of those floating around in terms of distress, either individual asset pieces or even a whole company," Crouthers said.

Still, some wonder if SPACs will be able to find big enough deals to match the funds they have raised because valuations remained depressed.

"If you look at what's happened in the last year, especially with valuations in the cannabis industry, you'll see that really severely limits the field of potential acquisitions," Haskell of Canna Angels said. "In theory, it's interesting for sure, however in practicality at this point in time I don't see it being a great mover in the industry."