Why Aurora Cannabis Is Not the Play on Recent Cannabis Optimism

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Aurora Cannabis (NYSE:ACB) stock took off last week. During those five trading days, ACB stock gained a whopping 142%. Tack on a 14.5% rally on Monday, and shares came close to tripling in six sessions.

Aurora Cannabis (ACB) logo on a web page
Source: Jarretera / Shutterstock.com

That said, the catalyst appears to be U.S. elections. Note that I wrote “elections” — plural. Headlines attributed the sector rally to the expected, and still-disputed, win by Joe Biden in the presidential contest. But to investors who understand the sector, it’s state-level triumphs that are more important.

After all, what will likely be a still-divided federal government probably won’t move on complete legalization, or even repeal the SAFE Act. But at the state level, cannabis legalization saw a clean sweep on Election Day.

Medical marijuana now is legal, or soon to be legal, in 35 states and Washington D.C. In 15 states, the same is true for recreational use.

The big wins in state initiatives and referendums show that public support is there, even if the federal response is likely to be slow. In other words, legal U.S. cannabis — and more importantly the ability of Canadian operators like Aurora to enter the market — is another step closer to reality.

In turn, that’s the good news for Aurora stock. The problem, as we’ve learned this week, is that it’s still the only good news for ACB stock. This is a business that remains in serious trouble. And although I’m a big-time cannabis bull, I’m far from convinced that the American market will be able to save it.

Soft Earnings

Investors seemed to like Aurora’s fiscal first quarter earnings on Monday morning. Again, Aurora Cannabis stock gained almost 15%. Other major cannabis names posted far smaller gains, or even declines.

Honestly, I’m not sure why. Revenue admittedly topped Wall Street estimates, but sales were essentially flat quarter-over-quarter.

Also, Aurora cut its losses, at least on an adjusted basis. Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) loss, excluding costs related to its restructuring, was just 10.5 million CAD. That’s far better than the 32.3 million CAD loss posted in the prior quarter.

Here, too, however, the news isn’t as good as it seemed. Aurora simply slashed its spending. SG&A (selling, general, and administrative) and R&D (research and development) expense combined (and, once again, on an adjusted basis) dropped to 43 million CAD from 66 million CAD the quarter before.

That’s not really good news. Cannabis is a growth industry, even if the Canadian operators are managing through a difficult period. A company can’t drive growth while it’s cutting costs by over one-third in a matter of months.

The problem, as I’ve written before, and as Aurora management itself has detailed, is that the company has no other choice. Aurora has too much debt, and even before interest expense is posting a loss.

That said, debt and interest payments in the quarter were 18.2 million CAD. Capital expenditures (not accounted for in Adjusted EBITDA) were another 14.9 million CAD.

In other words, Aurora still needs to close a roughly 42 million CAD gap to get just to breakeven free cash flow. It generated only 68 million CAD in sales, and roughly 35 million CAD in gross profit, in fiscal Q1.

More Sales of ACB Stock

As that gap persists, Aurora needs to fund itself somehow. Lenders aren’t interested, given a debt load, and so the company needs to keep selling ACB stock.

Incredibly, in fiscal Q1, stock sales through a so-called “at the market” agreement totaled 114 million CAD. Aurora issued more than 15 million shares in the quarter, according to a filing with Canadian regulators. Shareholders were diluted by well more than 10% just within three months.

Again, Aurora has no other choice. But the constant share sales have pressured the Aurora stock price — and are doing so again. After the close Tuesday, Aurora disclosed a proposed offering of units at $7.50. Another 17 million shares are being sold. Institutional investors also are getting a warrant at $9 that doesn’t expire until early 2024.

Because of that, ACB stock — after dropping 26% in regular trading — fell another 16% since then.

Better Options Elsewhere

This type of trading isn’t new for Aurora. Back in May, investors cheered Aurora’s fiscal third quarter earnings report. Then, Aurora stock almost tripled in just three sessions. But as I thought they would, investors eventually figured out that the report simply wasn’t that good. ACB stock faded continuously for months, and by early October was back to new lows.

A single quarter does not change the core problem for Aurora stock. As I’ve said for some time now, there’s a vicious cycle at play here. Aurora has to sell stock to fund itself, which pressures the stock price, which means it has to sell more stock at an even lower price to keep funding itself.

The only thing that breaks the cycle is a business that can generate cash. There’s little, if any, sign in Q1 that the company is close to that point. Aurora promised positive Adjusted EBITDA in Q2 (after originally targeting Q4 FY2020, and then Q1 FY2021), but even that doesn’t get the company in the black (or all that close) in terms of free cash flow.

Ostensibly, U.S. legalization could accelerate growth to the point where Aurora can become profitable and start to fix its balance sheet. But I’m truthfully skeptical Aurora can last long enough to see that legalization without a restructuring. And even if it can hold on, it doesn’t have the resources to attack the American market in the way that other Canadian giants will.

Overall, it bears repeating: I’m a big-time cannabis bull. I’ve kept my faith in the sector despite the admittedly disappointing early results in Canada. This still is going to be a big business worldwide. Many companies, and many investors, will make a lot of money.

Unfortunately, I just don’t believe that Aurora, or Aurora shareholders, will be among them.

On the date of publication, neither Matt McCall nor the InvestorPlace Research Staff member primarily responsible for this article held (either directly or indirectly) any positions in the securities mentioned in this article.

Matthew McCall left Wall Street to actually help investors — by getting them into the world’s biggest, most revolutionary trends BEFORE anyone else. Click here to see what Matt has up his sleeve now.


Article printed from InvestorPlace Media, https://investorplace.com/2020/11/acb-stock-not-play-recent-cannabis-legalization-optimism/.

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