If you own Hexo (NYSE:HEXO) stock, you’re probably wondering if it can get any worse. Hexo’s share price was recently down 80% from its April peak. Just since the beginning of October, HEXO stock had lost more than half of its remaining value. Shares recently tanked below the $2 mark following lousy earnings both at Hexo and at rivals such as Canopy Growth (NYSE:CGC) and Aurora Cannabis (NYSE:ACB). This week, though, HEXO stock has put in a substantial turnaround, moving from below $2 back to more than $2.50 per share.
Was that the final bottom in HEXO stock? With folks looking past last quarter’s earnings, and with the tax-loss selling season winding down, is this the time to load up on the shares?
While the bounce in HEXO stock may continue for now, for longer-term investors, sadly, there’s even more downside ahead for Hexo. Here’s why.
Disastrous Quarterly Results
Hexo’s earnings results at the end of October gave investors little reason for optimism. It’s no surprise that traders have dumped HEXO since the company announced earnings.
Looking merely at revenues, things might not seem that bad. Overall corporate revenues jumped from 13 million CAD ($9.79) to 15.4 million CAD sequentially. That leaves out a key fact, though. The merger with Newstrike closed this quarter. Excluding those revenues, Hexo’s sales would have been less than 13 million CAD , making a second consecutive quarter of falling revenues.
This makes sense, as Hexo isn’t a leader in the medical cannabis space … yet. Meanwhile, prices are plunging in the recreational space as inventory vastly exceeds demand. This led to a particularly unfortunate situation where Hexo purchased inventory earlier this year from outside parties, and is now forced to resell that supply at a loss.
This quarter’s earnings confirm that Hexo’s business strategy hasn’t worked out any better than its peers. And there’s no near-term turnaround in the works.
The company lowered Q1 2020 guidance and pulled its previous full-year 2020 guidance altogether. Think about it: With even the likes of Aurora and Canopy struggling mightily, why buy Hexo?
Shrinking To Survive
Until recently, Hexo had been pitching investors an incredible growth story. Things have changed dramatically though; now Hexo is retrenching.
They’re reducing the levels of operations at their home facility in Quebec. And they’re suspending grow operations at their Niagara facility which they just finished acquiring from Newstrike. On top of that, they’re laying off several hundred employees. Again, none of this is unique to Hexo, rather, it’s a similar refrain across the cannabis space. But it shows questionable planning on Hexo’s part; their strategic moves simply haven’t panned out throughout the year.
The Newstrike deal in particular has raised more concern due to an admission that some unlicensed cannabis was inadvertently grown there. As Hexo disclosed in a recent press release:
On July 30, 2019, shortly after the Newstrike Brand Ltd. acquisition closed, HEXO discovered that cannabis was being grown in Block B, which was not adequately licensed. HEXO management immediately ceased cultivation and production activities in the unlicensed space. The Company notified Health Canada instantly, and the regulator was satisfied with HEXO management’s corrective actions.
For now, it appears this won’t be a major issue for HEXO stock, particularly since they are dialing back growing operations anyway. However, don’t forget what happened to CannTrust (NYSE:CTST) earlier this year; the regulators can hit hard if they sense any more weakness in compliance.
Hexo Let Investors Down With Optimistic Guidance
We know the marijuana industry is going through a tremendous struggle at the moment. We can forgive a management team for doing its best and coming up short of expectations given the incredible headwinds in the industry right now. It’s harder, however, to look the other way if management gives wildly promotional forward guidance and then whiffs by a mile.
Heading into the October quarter, management had suggested that the company would bring in more than 30 million CAD in revenues. The actual number was only half of what it had expected. And for 2020, Hexo had been projecting 400 million CAD in sales. Now it is struggling to grow revenues at all. Needless to say, with the most recent quarterly results coming in at just 15.4 million CAD, the company is annualizing at about 60 million CAD — there’s no reasonable path to 400 million CAD in sales in the near future, and anyone that bought HEXO stock on that previous guidance has got to be extremely frustrated now.
HEXO Stock Verdict
The HEXO stock story isn’t over yet. The company, with its recent capital raise, still has money to keep on going for quite awhile yet. And while management’s recent cut to guidance was devastating, there is still a potential growth story here.
Sure, it’d be wise to scale back your expectations after what we just saw. Still, the company has several irons in the fire, including its joint venture with Molson Coors (NYSE:TAP) that could give it a big leg up in grabbing the cannabis beverages market. I’ve said it before, I’d much rather own TAP stock than HEXO stock if that’s the angle you’re interested in. If it works out, both companies will prosper, if it flops, Molson Coors still has the beer business to keep paying the bills. Regardless, it’s a potential catalyst that could revitalize the HEXO stock price.
At the end of the day, though, Hexo is still selling for a more-than $650 million market cap. That’s really high for a company that is losing lots of money, has seen revenue growth stall out and whose management just blew its credibility with its previous revenue forecast.
I know HEXO stock may seem cheap given the sub-$2.50 share price. But even at this level, it’s still baking in a lot of optimism that the company will get back on track in 2020. I’m not so confident of that.
At the time of this writing, Ian Bezek owned TAP stock. You can reach him on Twitter at @irbezek.
