Another Drop Isn’t Out of the Question With Hexo Stock

  • As I warned in April, Hexo’s (HEXO) bump-up in price didn’t last.
  • In fact, it’s seen yet another high double-digit decline since then.
  • Down a total of 95.7% over the past twelve month, don’t assume this pot play can’t plunge again.
Image of cannabis on top of dollar bills
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In late March/early April, when shares in Hexo (NASDAQ:HEXO) were experiencing a lift in price, I argued why HEXO stock was one to avoid. At the time, investors were putting too much emphasis on this cannabis company’s U.S. legalization catalyst.

Not to mention, little focus on its high downside risk. Mainly, due to its plans to dilute shareholders, through a financing deal it entered in order to stay afloat. This dilution minimizes upside potential, in the event its operating performance improves.

Investors that took heed have avoided another round of big losses. Since publication of my last article on the stock, it’s down another 57.4%. Over the past year, shares have lost nearly all of their value, dropping nearly 96%. However, no bargain at 61 cents per share (what it traded for early last month), it’s still no bargain at today’s prices.

HEXO Hexo $0.2880

The Latest With HEXO Stock

So, why has Hexo not only given back its early spring gains, but hit new lows as well? First, the legalization catalyst has again faded. Although bipartisan support continues to grow for a marijuana reform bill, which would enable this Canada-based company to enter the U.S. market, reform in the near-term isn’t likely.

With this fading of this catalyst, focus has shifted back to the negatives with HEXO stock. Again, this is primarily regarding the financing deals the cash-strapped pot purveyor has pursued. Deals that are bad news for shareholders, yet necessary to get its financial house in order.

For instance, it’s financing deals with rival Tilray (NASDAQ:TLRY). Back in March, Tilray agreed to purchase convertible notes from Hexo, enabling it to avoid a debt default. In April, it expanded this deal, with Tilray agreeing to purchase Hexo’s remaining outstanding debt. In short, this larger Canada-based pot company has become its main creditor.

These deals also leave it in a position to build a position in Hexo on terms favorable to Tilray. Although it avoided a “game over” moment, investors in this hard-hit stock aren’t likely to see much benefit from recent developments.

Why This ‘Cheap Stock’ Could Get Cheaper

Despite the reasons behind the big decline in HEXO stock, you may still think it’s a bargain. Even a little improvement could mean a big rebound for shares, right? In theory, yes.

But take a closer look at the details. A turnaround is uncertain, and may not fuel a comeback. U.S. pot reform isn’t happening anytime soon. Not only that, a fully open U.S. pot market may not be a gamechanger for Hexo. Struggling to stay afloat, it likely would have less ability to capitalize on the U.S. market than its larger rivals.

With this, upside is limited to its ability to materially improve the results of its existing operations. Sure, Hexo has a turnaround plan in motion. Management believes it can improve operating cash flow to the tune of $135 million CAD ($104.4 million). That’s a large amount, compared to its current market capitalization ($127.8 million).

Still, this plan may not result in higher prices. I’ve laid out these reasons in past coverage, and I reiterate them, as well below. In fact, one of these two reasons, dilution, may cause it to sink further in price from here.

Bottom Line

Why am I skeptical about Hexo’s plans to increase its cash flow? Don’t get me wrong, its restructuring does entail reducing production and overhead costs. Still, a lot of the figure mentioned above is based on revenue growth assumptions.

Put simply, there’s more uncertainty with this than say, its cash flow projections were based fully on cost cutting. Also, something else I’ve mentioned before. High dilution may limit how much improved results mean for its stock price.

The Tilray financing deal brings with it more dilution. Atop the heavy dilution seen with this stock since last year. Dilution from share sales isn’t stopping. Earlier this month, the company launched a new at-the-money equity program.

As a major factor in its big price decline is still an issue, there remains far more to suggest that low-priced HEXO stock will continue making its way to lower prices.

HEXO stock earns an “F” rating in my Portfolio Grader.

On the date of publication, neither Louis Navellier 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. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

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