Aurora Cannabis (NYSE:ACB) is not having a good year. After shooting up nearly 80% in the first two-and-a-half months of 2019, the ACB stock price has fallen dramatically.
Even encouraging preliminary fiscal fourth-quarter revenue was not enough to prevent the stock from continuing to decline. Aurora Cannabis stock is currently hovering at a gain of about 10% for the year. However, some analysts suggest it still has room to fall.
But are the problems that plague Aurora Cannabis stock unique to ACB? Are they part of a larger industry problem? Or are they completely unrelated? The answer may be a little of each, but in my opinion, it comes down to this: Aurora is having problems shouldering the weight of unrealized, and perhaps unrealistic, investor expectations.
Cannabis Stocks Are Down Across the Board
This year hasn’t quite worked out the way the large Canadian cannabis producers, had imagined. Regulatory approval through Health Canada has taken longer than expected. This caused the market to be oversupplied. This is not good news for Aurora who, along with Canopy Growth (NYSE:CGC) is one of the largest producers in Canada.
Then, in July, news broke about CannTrust (NYSE:CTST) growing marijuana in unlicensed rooms. This was not an Aurora problem. However, the message to spooked investors was clear. The still emerging cannabis market continues to have a risk premium.
Yet it’s apparent that neither of these was caused by Aurora. The company didn’t make promises that they couldn’t deliver on. But this is what happens when a bubble bursts. When investors can’t punish themselves, they punish the innocent as well as the guilty.
Fundamentals Are Taking Control of the Frenzy
As the cannabis bubble began to inflate, Aurora did what many leaders in emerging markets would do, they issued more shares. This was a reasonable course of action, particularly as the cannabis market entered the growth-through-acquisition state. But as the number of outstanding shares went through the roof, analysts started to balk at the serious dilution that was happening with ACB stock.
Analysts also sounded the alarm about Aurora Cannabis stock being used to finance the company’s current and future acquisitions. In 2018, Aurora Cannabis completed the acquisitions of CanniMed Therapeutics and MedReleaf. More acquisitions spell higher volatility and further stock dilution. All of which means investors may be waiting a while to see a return on their investment.
But again I say this is what happens in a bubble. All of the major Canadian cannabis stocks, including Aurora, have balance sheet issues. Many have a large price-to-sales ratio (around five times higher than other industries). And all of the big cannabis companies are executing some form of the growth-through-acquisition model.
Regulation and Legalization Are Still Obstacles
What makes the cannabis story so intriguing is that both the supply and the demand exist. The problem is access. The major obstacles for Aurora come in the form of regulation (in Canada) and legalization (in the United States).
Canada voted on full legalization of marijuana (medicinal and recreational) in 2018. This gave investors hope that 2019 would be the year that Canadian companies, such as Aurora, would post earnings that reflected full quarters with legalized sales.
Through no fault of Aurora that hasn’t materialized. Because of regulatory delays, the market in Canada will not be fully open until December. This means investors and analysts won’t be able to assess ACB stock using conventional valuation metrics like EBITDA until after the 2020 first-quarter earnings.
And while Aurora and other companies wait for regulatory approval in their home country, they are increasingly looking to the United States market. But here they’re finding the market stalled as the U.S. still wrestles with the idea of full legalization. While I still believe that full legalization will happen sooner rather than later a small, vocal minority (mostly the “not in my backyard” crowd) may make progress towards this goal slower than investors would like.
What’s Next for Aurora Cannabis Stock?
Cult stocks like Tesla (NASDAQ:TSLA) seem to be able to get away with failing to deliver on spurious projections. However, investors seem to hold Aurora to a higher standard. But it is sounding more and more like investors are punishing ACB stock for not being able to save them from themselves.
Anyone investing in Aurora has to understand that it is a growing company in an emerging and volatile market. I wouldn’t buy ACB right now. It seems like no matter what happens when it reports its earnings later this month that it has further to fall.
But I’m still bullish on the long-term potential for Aurora Cannabis stock, particularly once investor expectations start matching up with the reality, and potential, of the stock.
As of this writing, Chris Markoch did not hold a position in any of the aforementioned securities.