Aurora Cannabis Stock Has Further to Fall

Vince Martin

Mon, Sep 23, 2019, 8:01 AM

But the bottom hasn’t come in yet — and it may not for a while. Admittedly, I have thought there has been an occasionally intriguing bull case for Aurora Cannabis stock. The company has the largest global reach in the industry. Valuation on a revenue basis has come in. Both recreational and medical marijuana, despite near-term worries, still should see growth over time.

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But the company’s fourth-quarter earnings report this month significantly undercuts the bull case. It reverses what looked like two pieces of good news heading into the release. And while the ACB stock price might be cheaper, it’s certainly not cheap. This still is an unprofitable company with over a billion shares outstanding and a market capitalization over $5 billion. It can get worse.

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Execution Whiff Drives ACB Stock Price Down

On its face, Aurora Cannabis earnings actually look reasonably strong. Revenue increased 52% quarter-over-quarter, with net cannabis revenue up 61%. Notably, gross margins expanded, an accomplishment other producers (notably Canopy Growth (NYSE:CGC)) haven’t been able to match.

Adjusted EBITDA was negative, but the loss narrowed sharply against the third quarter. And, here, too, most major players are in a similar spot, with Aphria (NYSE:APHA) a notable exception.

But Aurora Cannabis missed expectations, and not just in terms of Wall Street. It missed its own revenue guidance. That guidance — preliminary results, actually — was given barely a month earlier and more than a month after the quarter ended.

To be fair, the company’s Chief Corporate Officer Cam Battley told Yahoo! Finance that the company did meet its cannabis revenue outlook. The miss came in so-called ancillary revenue. But he also admitted that management was “red-faced” and said on the Q4 conference call that the miss “shouldn’t have happened.”

In this environment, that type of miss will be punished, and it explains in part why the ACB stock price fell after the report. But there’s a long-term problem here, too.

After all, Aurora Cannabis is probably executing the trickiest strategy of any of the major cannabis plays. It has operations in 25 countries on five continents, per its most recent investor presentation. The company is integrating numerous acquisitions. Unlike Hexo (NYSE:HEXO) or even cash-rich Cronos (NASDAQ:CRON), it’s aiming for breadth rather than focus.

It’s a difficult strategy, even if it makes sense in theory. But it’s a tough strategy in which to have confidence when the company can’t guide correctly a full five weeks after the end of a quarter.

The Financing Problem for Aurora Cannabis Stock

Aurora missed expectations on another key front. On the Q3 conference call, Battley said the company was “tracking for positive EBITDA” in the fourth quarter.

That didn’t happen. Aurora Cannabis lost over $11 million even on that basis. The company blamed the slow pace of retail rollouts — but that alone doesn’t seem a sufficient explanation. In May, at the time of the Q3 call, Aurora already was two weeks into Q4 and should have had a reasonable idea of the regulatory roadblocks in Canada.

But there’s a bigger issue: There was a growing worry this summer that Aurora was going to need additional financing. As I detailed in July, the falling ACB stock price meant convertible debt would need to be repaid in cash. That in turn suggested that the company might need to sell stock. That dilution, on top of a share count already above 1 billion, would add further pressure on Aurora Cannabis stock.

A couple of weeks later, ACB upsized its credit facility. That seemed to assuage the dilution concern. It gave the company room to pay off its debt and invest behind the business — assuming free cash flow turned positive.

That assumption no longer holds. As a Stifel analyst detailed in downgrading ACB stock, Aurora Cannabis has significant cash needs in the coming quarters. It’s going to be very difficult to raise more debt, which leaves the option of selling stock at already depressed prices.

The broader point is that Q4 earnings mattered — and not in a good way. The sell-off in ACB after the report isn’t knee-jerk. It isn’t just part of the wider weakness in cannabis stocks. In fact, the sell-off isn’t even necessarily short-sighted. Aurora Cannabis has significantly damaged investor confidence, and it will take time and success for the company to win it back.

As of this writing, Vince Martin has no positions in any securities mentioned.