Akerna (NASDAQ:KERN) and KERN stock exemplifies the sorry state of the cannabis industry. On June 18, Akerna stock began trading on Nasdaq at $12.88. In less than three days of trading, it hit $72.65 before settling down into the mid-$20s where it’s currently trading. 

Why the big move?

Investors are starving for a new cannabis story that doesn’t revolve around the flower, edibles, or infused beverages. 

Nevermind that this company loses money and has little revenue. The fact that it’s cannabis-related and not the usual story, it gets maximum attention.

While that’s great for Akerna, it’s awful for the people who bought over $70. Here’s why.    

The Merger

A merger between special purpose acquisition company MTech Acquisition Corp. and MJ Freeway, a small software company that specializes in products geared to the cannabis industry, was first announced in October 2018.

Are you familiar with SPACs?

SPACs use the experience and credibility of their sponsors to raise funds that are used to find an acquisition within 18 months from the closing of the offering. If an acquisition can’t be found, the funds raised are returned to the investors with interest. 

In the case of MTech, it was looking to invest in a business or businesses that were ancillary to the production, distribution and sale of cannabis with a focus on compliance, business intelligence, and brands & media. 

MJ Freeway falls under all three.

MTech’s shares were listed in January 2018, selling 5 million units to investors at $10 a share, the share price most often used by SPACs when going public. In addition to receiving one share of MTech stock, investors also got one redeemable warrant to buy an additional share at $11.50.  

The SPACs sponsor, MTech Sponsor LLC, was led by Steven Van Dyke and Scott Sozio, founders of Hypur Ventures L.P., a $30-million venture capital fund that invests in cannabis-related ventures. Van Dyke and Sozio have been investing in the cannabis space since 2014. Before that Van Dyke ran a hedge fund with more than $1 billion in assets under management.

Shareholders in both companies received new shares in Akerna, which is based in Denver and is run by MJ Freeway CEO Jessica Billingsley. MJ Freeway shareholders own 62.7% of Akerna, MTech shareholders own 27.7% of the company, and the investors of a $9.2 million private placement prior to the merger own 9.6%.    

The Acquisition

MJ Freeway, now operating as Akerna, has two revenue streams. They are the MJ Platform and Leaf Data Systems. 

Leaf Data Systems is the company’s software-as-a-service (SaaS) offering for government agencies looking to track licensed cannabis businesses from seed-to-sale. It currently has two clients — the states of Pennsylvania and Washington — that accounted for 43% of its Akerna’s overall sales in the first six months of its current fiscal year.  

The company’s second revenue stream is MJ Platform, which provides cannabis businesses with an ERP (Enterprise Resource Planning) SaaS compliance system to manage their inventory and regulatory compliance.

So, Akerna’s got both the businesses making and selling cannabis as well as the government’s regulating cannabis covered. Its business model’s got potential written all over it. Perhaps, that’s why Roger McNamee, one of the earliest investors in Facebook (NASDAQ:FB), is on Akerna’s board and its Senior Strategic Advisor.

However, as investors have learned from the cannabis game, potential means nothing without revenues and a pathway to profits. 

With less than $11 million in annual revenue in its latest fiscal year ended June 30, 2018, and $2.33 million in the quarter ended March 31, 2019, MJ Freeway is hardly the kind of company we’ve seen go public in 2019. 

Sure, it loses money like many of the stocks listing in recent months, but it’s got a long way to go to unicorn status. 

In the meantime, anyone who paid $70 for Akerna stock was valuing its business at $650.4 million or 65 times sales based on 9.3 million shares outstanding after the closing of the merger, about the same as what you’d pay for Canopy Growth (NYSE:CGC), a company with C$4.9 billion in cash and plenty of assets to back up its growth plans. 

While MJ Freeway might have been specifically designed for the cannabis industry, it’s a certainty that the competition for business with state governments and cannabis companies is going to intensify in the next 3-5 years as the industry matures. 

Currently losing more than $4 million on less than $11 million in revenue, Akerna’s going to require significant future capital to grow anywhere close to becoming a $1 billion business. 

The Bottom Line on KERN Stock

As I write this, KERN stock is up 80% from its June 18 opening price of $12.88, and 129% higher than the merger price of $10.14 a share. That would be great news if you were one of the lucky ones to buy Akerna shares on its first day of trading. 

However, the truly fortunate investors are the MTech founders purchased 1,437,500 founders’ Class B shares for $0.017 per share. Including the 225,00 shares they bought at $10.14, they’re sitting on a $37 million unrealized profit on their shares over just 18 months. 

Of course, 50% of these shares can’t be sold until June 2020 after the lock-up expires. 

That’s a big profit for a company that’s only got $10 million in annual revenue and is losing a considerable amount of money. 

As for MJ Freeway’s business potential, if you don’t own KERN stock, I would wait until shares fall back closer to the $10.14 value used in the merger. 

Either way, it’s an investment for only the most aggressive investors.

At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.