Since hitting a 52-week high of $8.40 in April, Hexo (NYSE:HEXO) slid down for the last several months and has since been trading sideways within the $4-$4.50 range. In fact, HEXO stock, now in negative territory for 2019, has lagged other pot stocks generally as compared to the Alternative Harvest ETF (NYSE: MJ).
That MJ exchange-traded fund is up slightly by 1.4% for the year. HEXO stock is the seventh-largest holding in the fund’s 37-pot stocks portfolio. Now with the fall investor season in full swing, Hexo may be finally ready to break out of the trading band after their next quarterly earnings call later today.
The cannabis sector is well known for highly cyclical boom and bust trends. When trading finally moves from sideways to a bounce back, here are three key reasons why Hexo is a pot stock to watch.
Canada’s Cannabis 2.0 Around the Corner
Hexo is one of the Big Five Canadian cannabis stocks. As such, Hexo stock will likely be a prime target of investor interest next month. As part of the ongoing process of national legalization of cannabis in Canada, Oct. 17 marks the date when it becomes legal to sell cannabis extracts. The first round of legalization in Canada began in 2018 but applied only to dried marijuana. The legislation scheduled to take effect next month will bring into the Canadian market a vast range of cannabis-infused edible products that will be far more appealing to a broader audience.
“The edibles market is estimated to be worth at least $1.6 billion a year in Canada, with cannabis-infused beverages adding a further $529 million,” according to Jennifer Lee, Deloitte Canada’s Cannabis national lead. “The introduction of cannabis-infused edibles will clearly threaten the alcohol industry as consumers are using the product for similar usage occasions,” she wrote recently.
Hexo has been patiently waiting to pounce on the newly expanded market and has already developed cannabis-infused gummy candies, a premium vape line as well as several cannabis-infused beverages.
Powered by Hexo: Innovation will Protect Margins
As the global cannabis market expands, commodification is inevitable. That is, a bulk of consumers may simply seek their best bang for the buck.
Generic cannabis producers focusing purely on high output and low price could get caught in a price squeeze. Seeing the long-term direction of the market, Hexo has invested heavily in R&D and product innovation to enhance the brand value of a “Powered by Hexo” product line.
“Building our innovative technology is critical in building a brand. We believe that brand will be the final moat by which CPG cannabis companies are differentiated,” explained Sebastien St-Louis, Hexo co-founder and CEO, on a recent earnings call.
“We’re continuing to expand our R&D and innovation team with top scientists, chemists who have extensive experience in CPG companies. We now have 25 PhDs on staff. They’re focused on developing new and innovative products for the market and best-in-class technology for our Powered by HEXO experiences,” he said
Strong Top Line Revenues
The global cannabis market is still in the very early stages where firms are focusing primarily on building infrastructure, expanding distribution channels, and creating a market presence among new consumers.While Hexo is certainly building production capacity and distribution as well as creating a valuable brand identity, it is undoubtedly furiously growing top-line revenue. Hexo’s total gross revenue was CAD 15.9 million ($12.05 million) for Q3 2019, 11.8x over the same quarter in 2018. Hexo expects revenue to double in Q4 2019, particularly as it starts to expand aggressively beyond Quebec.
Undoubtedly, there is much risk inherent in Hexo’s financials, as well as the entire pot stock sector. Hexo operating cash flow is negative, and operating losses continue to mount. Further, many investors are becoming wary of the ebbs and flows of political sentiment about new cannabis laws in the US, where the Republican-controlled Senate has so far expressed near-zero support for legalization.
However, all these risks are already well and truly baked into the Hexo stock price. A favorable earnings call this month may be all it takes to see Hexo stock rebound for its current sideways trading pattern. Given the intraday volatility, Hexo may be a good buy on any market dip.
As of this writing, Theodore Kim has no positions in any of the aforementioned securities.