It’s been almost three weeks since Aphria (NYSE:APHA) announced surprisingly strong fiscal Q4 earnings, sending Aphria stock up by nearly 20%.
The headlines about Aphria’s results were all very positive. Here are three examples:
- Aphria Earnings, Sales Beat, Helped By Distribution; Aphria Stock, Marijuana Stocks Jump– Investor’s Business Daily
- Aphria Posts Surprise Profit as Cannabis Sales Volumes Double – Financial Post
- Aphria Inc. Announces 158% Increase in Adult-Use Sales and Profitable Fourth Quarter- Aphria press release
Granted, that last headline was written by the company, but generally, the business media were quite positive about Aphria’s return to profitability.
Back in early July, I suggested that aggressive investors ought to consider buying Aphria stock because the company’s new facility would enable it to to deliver significantly more cannabis. As a result, I thought APHA would be able to make a big push into the vaping market, which is expected to account for 30% of the entire market by 2021. I believed that,in turn, would be a strong positive catalyst for Aphria stock.
However, before I put a rubber stamp on APHA stock, I thought I should look at the finer points of Aphria’s results to see if I could uncover any red flags that could hurt Aphria stock.
The Positives of Aphria’s Q4 Results
As Investor’s Business Daily pointed out, Aphria’s overall revenue in Q4 jumped 75% to C$128.6 million, 31% higher than analysts’ average estimate. Even better, Aphria’s revenue from recreational pot grew 158% year-over-year to C$18.5 million.
APHA has two primary revenue streams: Distribution revenue and net cannabis revenue. In Q4, distribution revenue increased 72% versus Q3 to C$99.2 million, while net cannabis revenue jumped 86% quarter-over-quarter to C$28.6 million.
Aphria’s distribution revenue accounted for 77% of its overall revenue. Most of its distribution revenue is from CC Pharma, the company’s German pharmaceutical distribution business, which Aphria acquired last November.
APHA generated net profit of C$15.8 million in Q4. It now expects 2020 revenue of C$650-700 million and adjusted EBITDA of at least C$88 million.
Also, the number of kilograms of cannabis sold by APHA in the quarter doubled to 5,574, and its average cost of goods sold per gram sank 51 cents to C$2.35 a gram.
It’s no wonder that APHA stock initially jumped by 40% on the news.
The Negative Aspect
The biggest negative aspect of Aphria’s Q4 2019 report is that its distribution business’ gross margin is significantly lower than its gross margin from dried cannabis.
In Q4, its distribution business generated a gross profit of C$12,274, 19% lower than the gross profit of its cannabis business.
Put another way; cannabis generates 53 cents gross profit for every dollar of sales compared to 12 cents for its distribution business.
At the end of the day, while the gross margins of its cannabis operations are impressive, it’s going to need its distribution business to start contributing more to the bottom line, either by generating increased medical cannabis sales to pharmacists in Germany or by lowering the distribution unit’s overall costs.
Until the cannabis side of the business can generate more than the C$100 million of annual sales it posted last quarter, APHA’s gross profits will continue to be relatively low, considering its top line.
The Bottom Line on Aphria Stock
Aphria’s business continues to head in the right direction, thanks to the vice-like grip of its chairman, Irwin Simon, on the company.
With its cannabis output expected to rise meaningfully, leading to better results in 2020, I continue to see Aphria stock as significantly undervalued compared to some of its bigger peers.
On a scale of one to ten, I’d rate APHA’s Q4 earnings a solid eight, painting a bright future for the Canadian cannabis company.
At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.