HEXO Has Too Many Risks Right Now

HEXO (NASDAQ:HEXO) is one of the largest licensed cannabis companies in Canada, selling innovative cannabis products. The firm has a plethora of brands like Redecan, UP, Original Stash, Namaste, Bake Sale, Trail Mix, Re-Up, for adult use, and medical market. HEXO stock also comes with a plethora of risk.

Image of numerous marijuana plants growing side by side
Source: Shutterstock

Interestingly, HEXO has all these brands being a tiny company with a market capitalization of $219.161 million as of March 15, 2022. It is currently a penny stock with a price of about 54 cents. Investors have not been kind to HEXO stock sending it lower by nearly 93% in the past year. The 52-week range of $0.46 – $8.5 leaves HEXO stock trading now at nearly 18% above its 52-week low.

Contrarians may think the bottom in the stock price has been formed. Do not rush to conclusions before analyzing the fundamentals first. HEXO stock has several important pieces of news that you should know about first.

HEXO and Tilray’s Strategic Alliance

The company has announced a strategic partnership with Tilray Brands (NASDAQ:TLRY) bringing forth a new debt financing agreement between the two Canadian cannabis companies.

Key points in this agreement include HEXO restructuring its balance sheet, which includes the sale of amended senior secured convertible notes to Tilray. This move is expected to significantly improve the financial flexibility of HEXO.

The restructuring of notes will release $80 million CAD in restricted cash for strategic initiatives and the agreement is expected to benefit both companies, resulting in production efficiency savings of up to $50 million CAD within two years.

Furthermore, it was announced that “KAOS Capital and partners to provide additional C$180M three-year equity backstop commitment to maintaining newly robust balance sheet.”

Special attention should be placed on the following two comments.

First: “restructuring HEXO’s debt is a critical first step in allowing the Company to move forward with its Path Forward strategy and to begin to unlock significant shareholder value,” said Mark Attanasio, Chair of the Board of Directors of HEXO.

And second: “This strategic alliance will help lower our costs, preserves our stand-alone optionality,” said Scott Cooper, HEXO President and CEO.

Why the special attention? Well, when you read phrases like “strengthen our balance sheet” you should suspect that the financial position of HEXO isn’t good. This is confirmed by looking at the fundamentals of HEXO for the past five years.

HEXO Stock Fundamentals: Net Losses, Cash Burn Problem

HEXO has a fiscal year ending on July 31. It achieved a positive sales growth of 53.21% in 2021 reporting revenue of 123.77 million CAD compared to revenue of only 4.1 million CAD in 2017.

However the bigger financial picture is just too bad. The company has been unprofitable since 2017. HEXO also has a very severe cash burn problem. It has been accumulating negative retained earnings that in 2021 were reported to be (773.99 million CAD). This means that HEXO cannot use these losses as in the case of positive retained earnings to pay down its debt.

Other red flags to consider are that HEXO has less than a year of cash runway based on its current free cash flow. Also, shareholders have been substantially diluted in the past year, with total shares outstanding growing by 231.7%. This is a massive stock dilution harming too much the intrinsic value of HEXO stock.

The TTM operating margin of -81.7% and a net margin of -157.68% show a business model that is in severe distress.

The cannabis firm has also a negative interest coverage ratio of -5.50 on a TTM basis. This means that it does not generate positive earnings from its operations. Yet, it has interest payments to pay, which if not paid will lead to potential bankruptcy.

The Path Forward: A Plan for Cost Savings

HEXO has identified that it has severe financial problems. Back in Feb. 2022, the company announced an update to its strategic plan named “The Path Forward.”

To reduce Services and Goods (S&G) expenses by 30% by fiscal year end 2023, HEXO announced the reduction of 180 positions, a move that is expected to lead to approximately $15 million of cost savings on an annualized basis.

The decision was based not only on cost savings but also on generating cash flows that will support revenue growth.

NASDAQ Threatens HEXO Stock Delisting

In late January, HEXO announced it received a notification from the NASDAQ Stock Market for not complying with its minimum bid price requirement of $1 per share.

A grace period of 180 days has been given until July 25, 2022, to gain compliance. If the firm does not regain compliance a delisting is probable. The other option is for Nasdaq to grant an additional period of 180 calendar days as a grace period.

HEXO has severe negative factors making it a very risky stock now. Look for safer options elsewhere unless you want to speculate bearing this elevated risk.

On the date of publication, Stavros Georgiadis, CFA did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Stavros Georgiadis is a CFA charter holder, an Equity Research Analyst, and an Economist. He focuses on U.S. stocks and has his own stock market blog at thestockmarketontheinternet.com. He has written in the past various articles for other publications and can be reached on Twitter and on LinkedIn.

Article printed from InvestorPlace Media, https://investorplace.com/2022/03/hexo-stock-has-too-many-risks-even-with-its-new-tilray-alliance/.

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