Aphria Stock Might Be the First Victim as Pot Stocks Face Reality

Poor earnings from cannabis producer Aphria (NYSE:APHA) let loose a foul smell across the marijuana sector to start the week. Investors lit up Aphria stock for a 15% loss on Monday. The rest of the major pot players suffered significant losses in sympathy. Canopy Growth (NYSE:CGC) couldn’t buck the trend. CGC stock fell 3.6% on Monday, extending its downward momentum.

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On the one hand, it’s tempting to dismiss Aphria’s results as not being a big deal. Aphria is a scandal-plagued company whose former management quit. Short sellers attacked the company for allegedly mistreating shareholders.

Aphria’s results included a big writedown on one the controversial assets, suggesting that the short sellers were correct about wrongdoing there. That said, even excluding potential questionable dealings, Aphria’s results straight up stunk.

Aphria’s quarterly loss came in at at -C$0.20. That was far worse than the four cent loss that analysts had expected. Additionally, Aphria printed just C$74 million in revenues against expectations of C$83 million. To put it bluntly, this was an awful start to earnings season for the marijuana companies. What’s it mean for CGC stock?

Aphria Stock and Investor Expectations

Up until last October, marijuana companies could largely get by with just selling investors a promising story. Few market participants cared about how much money the pot players were losing. The losses didn’t matter, since people assumed that windfall profits would come once legalization arrived on a national level in Canada.

Aphria initially showed signs that this could come true, as they became the first to deliver a quarterly profit a few months ago. But this quarter showed a big setback. The profits vanished, turning back into large losses (even before the accounting write-down on their LatAm business).

The average price per gram sold continues to drop and gross margin plummeted. Some of this is due to changing distribution strategies, but a lot appears to be tied to simply too much marijuana production compared to demand.

When marijuana wasn’t legal yet, investors didn’t have to worry about revenues, profit margins, cash burn, and the like. The future held so much potential. Now, however, the numbers get more and more troubling with each passing set of quarterly results. Canopy’s earnings don’t come out for another month yet. But with Aphria’s numbers looking so dour, people will be on the defensive in CGC stock.

Canopy Growth and Aphria Stock

On the other hand, it’s not all bad news for CGC stock either. Marijuana is a Wild West right now. Dozens of companies are rushing into the arena, trying to grab their share of the fortunes that are being made. Unfortunately, like in the gold rush of 1849, most people that try to make money will end up losing. The marijuana industry will have to consolidate; there isn’t room for dozens of firms to be profitable.

Canopy has a huge leg up here, as it is one of the few weed players with a major backer. Canopy was the first to score a major corporate endorsement, getting Constellation (NYSE:STZ) to invest heavily in the firm. Since then, Cronos (NASDAQ:CRON) scored a similar major backing from Altria (NYSE:MO).

That should give those two firms a major advantage moving forward. Smaller and unaligned marijuana firms are suffering major losses and cash burn. They’ll have to keep raising capital from the markets on increasingly unfriendly terms.

Meanwhile, the select few which have major sponsorship will be able to operate more efficiently and consolidate the industry as weaker players drop out. Aphria, with its scandals and shifting management team could be one of the victims of this consolidation wave, giving more of the market to Canopy.

Aphria Stock Was Bound to Tumble

There’s another sign of the strong getting stronger while weaker players like Aphria stumble. That would be the stock indexes. Last Friday, S&P announced that CGC stock will be joining the prestigious S&P/TSX 60 stock index. This index tracks the 60 largest firms in Canada, and is one of the major players that passive ETFs and mutual funds follow.

Remarkably, Canopy, even as such a new operation, has already managed to outpace one of Canada’s leading precious metals firms, Goldcorp (NYSE:GG). Canopy surpassed Goldcorp in market cap, leading to CGC stock taking GG’s place in the index.

When this change is put into effect later this week, it should lead to a surge of buying for CGC stock as passive funds are mechanically forced to exchange their Goldcorp stock for Canopy. Smaller firms like Tilray (NASDAQ:TLRY) and Aphria won’t benefit from this sort of index buying, as their market caps are simply too diminutive to get picked up by major stock indexes.

The Bottom Line on Aphria Stock

Aphria kicked off earnings season with some dreadful numbers. And let’s face facts, they won’t be the only ones. The shine is coming off a lot of these pot stocks now that legalization is here and yet the losses keep piling up.

At the time of this writing, Ian Bezek owned MO stock. You can reach him on Twitter at @irbezek.

Article printed from InvestorPlace Media, https://investorplace.com/2019/04/aphria-stock-pot-stocks-face-reality/.

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