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22nd Century Group (NASDAQ:XXII), a reduced nicotine and hemp/cannabis API company, saw its stock price gain 87% last week. The company’s stock underwent a 1:15 reverse split back on July 3rd and the stock price dropped after the split. The recent rally brought the stock price above its reverse split price to about $4.85 and at one point it had gained 165% and was trading around $6.65. As of Monday, the price was down to around $2.88 per share. There was nothing driving last week’s rally, except perhaps general bullish conditions in the market. After the reverse split, the company’s valuation improved and perhaps its share price became more impressive to investors.
I have been covering the company since March 2021 and recently rated the company as a hold with long-term promise. 22nd Century Group has introduced its FDA MRTP approved very low nicotine (VLN) cigarettes, which will become a standard in the industry as the government limits nicotine levels of cigarettes in the future. In addition to its tobacco segment, the company offers CBD distillate ingredients (APIs) and CBD white label products through its wholly owned subsidiary GVB BioPharma.
The company has recently experienced rapid growth with the FDA approval of its (VLN) cigarettes, so that the cigarettes may be sold as helping one consume less nicotine, as well as its acquisition of GVB BioPharma. Before these events, 22nd Century Group was manufacturing (VLN) cigarettes for government research groups and it was selling rolled cigar products. Since FDA approval, the company has vamped up production and distribution of its (VLN) cigarettes. It has also made new CDMO+D contracts for selling its CBD distillate. Recent analysis on Seeking Alpha has rated the company as a strong buy.
I continue my rating of a hold and caution investors to wait for this week’s volatility to subside and for the stock price to restabilize. The Fed will release its rate-hike decision on Wednesday and this week begins earnings seasons for the largest S&P 500 companies. These items will make the week rather volatile. If a long-term position is sought, then one should wait until the price stabilizes assumingly during the first week of August. Below I will discuss business developments for 22nd Century Group, its Q2-2023 outlook, and its new post-split valuation.
Expansion of Business Operations
Since the company’s (VLN) cigarettes were approved for low nicotine marketing, 22nd Century Group has been rapidly expanding its manufacture and distribution footprint in the US. The company expects expansion of its (VLN) cigarettes into eighteen states throughout 2023 and a significant increase to the number of locations carrying its products. A larger distribution footprint will be reflected in its Q2-2023 revenue.
According to the company’s June 2023 Investor Presentation, its cigarettes (regular and menthol) are available at 1,104 retail locations spanning six states (CA, MT, CO, TX, FL, IL). The company said in its presentation that as of June, it had additional expansion plans in the pipeline, bringing the total locations to 3,504 and adding additional states. The company expects the number of locations to grow to 7,909 and to be distributing in fourteen states in the near future.
Throughout June and July, the company released updates about its expansion. It announced that it had expanded distribution in Texas, California, and Florida. It also added Nevada and Montana to its footprint. The company expanded its distribution in the Midwest as well.
Besides footprint growth, the company has introduced new products to its existing distribution network. In April, the company announced the release of a new cigarette brand called Pinnacle which should sell at a premium. In June, the company indicated that it would be selling low nicotine tobacco sheets for alternate tobacco products like rolls and heat-not-burn tobacco products. In July, it announced a (VLN) King cigarette to be made available in California.
22nd Century Group, through its subsidiary GVB BioPharma, has made exclusive CDMO+D agreements with Cookies and Old Pal with forward revenue predictions of more than $140 million. CDMO+D stands for contract development and manufacturing organization plus distribution. Basically 22nd Century Group provides the CBD distillate, the finished white label product, and distribution support. The company will provide Cookies, a global cannabis / hemp brand, with a majority of its in-house CBD products, including vapes. A similar agreement was made with California based cannabis / hemp company Old Pal, which now operates in eight states.
The company continues its pilot programs for (VLN) cigarettes in South Korea, Japan, and Switzerland. 22nd Century Group has not given any updates on its (VLN) tobacco crops in New Zealand nor its other CBD distillate subsidiary RX PharmaTek in the UK. There have not been any updates on the company’s hops segment.
Q1-2023 and Q2-2023 Outlook
The company reported Q1-2023 revenue of $22 million, representing a 143% increase YoY. It updated its PY2023 revenue guidance between $105 and $110 million and plans to have cash positive operations in 2024. Gross profit for Q1-2022 was negative $1.2 million compared to positive $0.3 million YoY. The company expects improved gross profit for Q2-2023. The company reported an operating loss of $17.8 million compared to a loss of $8.1 million YoY and a net loss of $18.2 million compared to $8.9 million YoY. Its Adjusted EBITDA was negative $14.7 million compared to negative $6.6 million YoY.
The company reported tobacco product revenue for Q1-2023 of $8.9 million, representing a 1.3% decrease YoY. The company said that it is switching production resources away from lower margin products, like filtered cigars, to higher margin products, i.e. (VLN) cigarettes and the new Pinnacle brand. The company reported hemp / cannabis revenue of $13 million. The company did not have this revenue stream during Q1-2022, so there is no comparison of growth.
Gross profit for Tobacco operations was break even. Gross profit for hemp / cannabis was negative $1.2 million. The company is still recovering financially from the 2022 Grass Valley fire. The production facility will be back and running Q2-2023. Some financial loss will be recovered from insurance. Crude extraction and distillate processing of CBD will be active during Q2-2023. New CDMO+D contracts will begin to pay off during the second half of 2023.
Market consensus on the company’s Q2-2023 revenue estimate is $24.26 million and EPS estimated at negative $1.06 per share.
In its Q1-2023 report, 22nd Century Group said the following about its future outlook for 2023:
We anticipate sequential growth in each quarter going forward, as well as improving gross margin performance, reflecting accelerated distribution and sales growth for both (VLN) and Pinnacle, increasing consumer purchase patterns, substantial increase in cannabinoid ingredient sales volumes, the return of our hemp/cannabis production capacity, new cultivation initiatives, and the rollout of our license and distribution agreements with leading hemp/cannabis brands. Executing on this plan will deliver our goal of cash positive operations in 2024 on a consolidated basis after corporate overhead.
Balance Sheet
22nd Century Group reported total cash, short-term investment, and restricted cash of $23.7 million. Cash on hand and short-term securities was $16 million. The company’s total assets were listed at $124 million. Current liabilities were reported at $16.8 million, while total liabilities sit at $42.7 million. The company received a new credit facility of $21.1 million to strengthen its operations. 22nd Century Group reported operating expenses of $16.6 million. Although its assets far outweigh its liabilities, the company is not yet operating with free cash flow. It reported total accounts receivable at $12.1 million, which is increasing QoQ. The company has no risk of liquidity and has enough cash and assets to continue strong operations and expansion. 22nd Century Group expects a cash rich environment in 2024.
Risk
The risk level on a long-term strategy is moderate. The biggest issue concerns the company’s ability to expand its footprint while still remaining profitable. The investor would want to see the company reach the largest distribution footprint and show free cash flow in its operations. It is a slow dance and it may take another year or more for the equation to stabilize. It is recommended that one watches the company’s financial performance from quarter to quarter.
The company’s strategy is in-line with the FDA’s future plans for nicotine consumption. The FDA will regulate the amount of nicotine in tobacco products in the near future. It will limit the amount to a nominal non addictive amount. This future legislation will pertain to all tobacco producers in the US. 22nd Century Group, which developed its products alongside the FDA future guidelines, has already positioned itself for the future of the industry. As it stands, the company has no competition in the low nicotine cigarette market.
The larger stock market, although entering bullish territory, is still suffering from extreme volatility. This volatility will pose a high risk to an investment. This week, we will hear from the FED about a rate hike decision. Also, this month the largest companies in the market will report Q2 earnings. These two items will cause more volatility in the market regardless of a company’s fundamentals. Again, I stress the need to enter a position at the lowest possible price.
Stock Price Rally, Valuation, and Entry Point
Because of the recent 1:15 reverse stock split, historical price data on a chart will not help decipher the future price trend. The stock price uptrend from this last week averaged out to an 87% gain in price over five days. Because the price dropped after the split on July 3rd, the rally only brought the price a little higher than its split price. The stock was trading at $4.85 at Friday market close (after market at $4.75). This price would equate to $0.31 per share at the pre-split price. Accordingly, the price has hardly recovered. Its high on Friday of $6.60 per share would be $0.44 per share pre-split. It is unclear where the trend will go this week and greater market volatility will likely cause a wild ride in price. As of Monday, the stock price was down 40% to $2.88 per share. The rally has subsided for now.
The company is currently valued at $5.62 book value per share. The stock is trading at .69x NTM Total EV Divided by Revenue. Current Wall Street price targets of $45 per share seem out of proportion. I would set the target at around $15 per share in the long term. Regardless, the company and its stock are currently undervalued. The company is increasing its revenue number QoQ and has plans for future rapid growth. One would want to see cash rich operations as predicted in 2024, as well as increasing free cash flow.
The stock price will fluctuate this week, so it is wise for a long-term position to wait for a new price stabilization. My guess is that it may fall as low as $2 per share after all the volatility of the week. I recommend a long-hold strategy at the lowest entry price possible. One should also watch the company’s financial performance while holding such a position.
Conclusion
Since I last covered 22nd Century Group, the company has expanded its distribution pipeline for (VLN) cigarettes and added an additional CBD distillate agreement. The company also added new products to its portfolio. The company is experiencing revenue growth from quarter to quarter. The company’s stock underwent a reverse split earlier this month followed by a downtrend in price. Over the last week, the new stock price underwent a rally averaging out to an 87% gain. This week it is unclear what direction the trend will take. The week-long rally had no obvious reason, but a new bull market and better valuation may have attracted investors. I have been recommending this company since 2021 and continue to recommend a long-term strategy so one may profit from its rapid growth. As it stands, 22nd Century Group has no competitors in the very low nicotine market. I suggest that investors watch the company’s financial performance and stock price movements in order to ascertain the best entry point for a long-hold strategy or to refill one’s existing basket.
Editor’s Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.
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