Cannabis stocks like Aurora Cannabis (NYSE:ACB) are struggling at the moment. ACB stock is up over 50% so far this year, but it has dropped nearly 30% from its March highs. Whether the weakness is being caused by concerns about the stock market or a lack of patience, Aurora stock isn’t the only cannabis stock that’s headed in the wrong direction.
Canopy Growth (NYSE:CGC) is down 20% over the last month. Cronos Group (NASDAQ:CRON) has fallen 40% since early March. A “risk-off” trade in equity markets likely is a factor. But the problem for the cannabis space – and for Aurora Cannabis stock – is that there’s not really a catalyst left on the horizon.
Aurora’s growth recently has been particularly impressive. Its net revenue quadrupled year-over-year during its fiscal third-quarter report, which was supposedly disappointing. It wasn’t enough, however: ACB stock fell on the news and has continued to drop.
The problem for ACB stock, and for the space as a whole, seems reasonably simple: investors are trying to figure out what’s next. So far, neither Aurora Cannabis nor the industry seems to have the answer the market wants to hear.
Aurora Stock Falls After Its Earnings
It might seem odd that Aurora Cannabis stock would decline after the Q3 report. Its revenue and earnings did miss Wall Street expectations, but not by much. As I noted, its revenue quadrupled. Its gross margins held up reasonably well, even though lower-margin, dried products made up a higher mix of its output. Perhaps most notably, its production nearly doubled quarter-over-quarter.
ACB’s cash costs fell. Its international revenue rose 39% versus Q2; that’s impressive for a company that has made a clear effort to expand its overseas reach. Its SG&A (selling, general, and administrative) expenses did rise 327%, but that was roughly in-line with its revenue growth. Given how aggressively Aurora is spending and the acquisitions it’s made, that increase shouldn’t be much of a surprise.
Even with the miss relative to the average Street expectations, it’s difficult to see the quarter as anything other than a validation of its strategy. Indeed, Luce Emerson made exactly that argument on this site after the report was released.
The Outlook of Aurora Stock
But there are two issues with relying on ACB’s Q3 results. First, ACB stock wasn’t cheap, or close to it, heading into the report. Aurora stock was trading at close to 30 times analysts’ average FY19 revenue estimate heading into the results. A strong quarter was already priced into ACB stock, as was years’ worth of growth.
Secondly, that valuation meant, and means, that Aurora Cannabis needs to grow more quickly than its aggressive valuations suggest. It fell short of that growth in Q3. Looking forward, the question is how it can accelerate its growth.
After all, much of the quarter’s growth came from the opening of the Canadian market to recreational products, but that happened almost eight months ago. ACB’s international revenue did grow nicely, but it’s still just 6% of the company’s total sales.
With overall Canadian retail cannabis sales relatively flat, the obvious concern becomes clear: What will drive ACB stock in a year and beyond? And as Aurora ramps production of cannabis – along with Canopy, Cronos, Tilray (NASDAQ:TLRY), Hexo (NYSEAMERICAN:HEXO), and myriad others – what will happen to cannabis prices?
Be Careful With Aurora Cannabis Stock
Unsurprisingly, cannabis stocks have been very volatile recently, and ACB stock has been no exception. Aurora Cannabis stock lost over half its value in the last two and a half months of 2018, and then doubled in the first two and a half months of 2019.
The recent declines of ACB stock , however, look like the beginning of another major downturn. There simply isn’t a catalyst on the horizon. U.S. congressmen are pushing for legalization at the national level, but not much progress on that front will be made until 2020, at least. The new Farm Bill led to optimism late last year, but hemp alone isn’t moving the needle for ACB stock and its $7 billion-plus market capitalization.
Meanwhile, there’s still the worry about the story Aurora is telling, as I wrote before its earnings. ACB likely is the highest-risk and highest-reward play in cannabis,, given how aggressively it’s moved into so many geographic and product markets.
That was a good thing for ACB stock at the beginning of the year. In a weakening cannabis sector, however, it’s becoming a reasonably large problem.
As of this writing, Vince Martin has no positions in any securities mentioned.