On Monday, when the markets were falling off a cliff from fears of the tariff war with China, the headlines were about Aurora Cannabis (NYSE:ACB) tumbling ahead of earnings. But on Tuesday, the stock closed up 4.5% into the earnings event. This morning ACB is down 1.2% on the earnings headline, though it dipped lower earlier. Clearly it’s an emotional stock, and investors have strong opinions on either side of the ledger.
Overnight, ACB reported earnings and Wall Street did not like what they saw. This was the opposite reaction to Tilray’s (NASDAQ:TLRY) earnings last night, which was up around 3.5% before falling back to a -3%.
The sellers stepped into ACB because they missed on both the top and bottom lines. Earnings were three times worse than forecast but that’s not the big problem as this is a growth stock and profits are not too big a concern for now. But they also missed on the revenue forecast. Luckily their sales were four time bigger than last year, they just failed to deliver what investors were expecting.
The bottom line is that traders wanted pizzazz and ACB did not deliver it this quarter. This doesn’t change the long term bullish thesis for it.
What Now for ACB Stock?
While 2019 has been good for stocks as the S&P 500 is up 13%, the year has been great for cannabis stocks. ACB came into the earnings up 36% year to date, for example, and it’s not even the star of the sector. Cronos (NASDAQ:CRON) and TLRY are up more than double that. Clearly there is froth, but in this case it’s not a reason to avoid the stocks. The thesis to own them is not value.
Fundamentally the metrics for cannabis stocks do not make sense. ACB sells at a 150 price-to-sales and carries a market capitalization of $8 billion for tiny sales sales. While this sounds like lunacy, this is a budding industry so we don’t have yet the right metrics to properly judge the value.
For now, production and deliveries are important to the experts and Aurora kept their 25,000 kilos fourth quarter goal. Think of it as an asset that is in demand and that they can’t source enough of it to satisfy the demand. And here the demand is insanely strong.
I have rarely seen such excitement over a commodity like cannabis. It is a strong draw regardless of the format. There is tremendous interest in the products but also for the cannabis stocks too. The chat rooms are packed if they are discussing pot stocks. Yes, it’s not all about the pot but it’s the original draw.
Since the cannabis companies stepped on the global platform, the experts started to speculate on applications for the stuff. We already knew about the edibles, but then the potables quickly grabbed the attention of the large corporations that sell sodas and booze. The chatter was that drinkable pot was going to disrupt the recreational beverage markets.
The mainstream mega-caps quickly saw the threat, and they, too, are trying to turn it into an opportunity. For example, Constellation Brands (NYSE:STZ) gave $4.5 billion to Canopy Growth and Altria (NYSE:MO) invested similarly in Cronos.
These capital investment headlines are infectious among corporations and the retail investors. This reminds me of the bitcoin mania of 2017. Hopefully the cannabis sector has more runway than bitcoin. There are similarities, but cannabis has more buy-in from a much larger section of the population. Everyone knows what cannabis is but few can explain what’s a crypto-coin.
So fundamental metrics aside, you own this stock because you believe that the industry has tremendous growth ahead. The concept behind that is that cannabis companies will disrupt several industries, including the medical community, so the sky is the limit for now.
That’s why the traditional ways to measure valuation do not apply here. The best recent example of this is Netflix (NASDAQ:NFLX). Investors gave it a pass on valuation for the longest time because of the global growth potential. So as long as it had the opportunity to expand into a massive market they didn’t care about how expensive NFLX was.
Even though management said that they will be EBITDA positive soon, ACB stock here is in an industry that has the same profitability pass. The potential market for cannabis seems endless, so it’s only logical to expect that early movers like Aurora Cannabis will be huge beneficiaries and that it’s only a matter of time.
So I don’t judge and I simply plug my nose and own it. They do have tremendous regulatory headwinds but those will also eventually be a huge part of the incremental opportunities.
Technically, there are a few levels to note for the short term. The $8 area has been pivotal for almost two years. These tend to be support on the way down so from here the bulls should have solid footing to target new highs. And in fact, this week’s selloff was hard and tested the support and $8 held on the button.
Conversely, if the bears eventually manage to break below $8 they could invite momentum sellers to retest $6.80 where they next major level of support lies. This is not a forecast but a scenario unfolding. There are other micro levels but if the thesis is to own ACB stock for the long term then it’s futile to waste time dissecting the micro time frames.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him as @racernic on Twitter and Stocktwits.