You might not think that Aurora Cannabis (NASDAQ:ACB) would need additional production capacity. After all, the company is already on track to have an annualized production run rate of well over 500,000 kilograms by the middle of next year. With its funded capacity of over 625,000 kilograms per year, Aurora ranks in a strong first-place position among Canadian marijuana growers.
But that's apparently not enough for Aurora Cannabis. The company announced on Wednesday that it's increasing capacity at its biggest facility even more than planned. What in the world was Aurora thinking?
An even bigger Aurora Sun
Aurora is in the process of constructing its facility, dubbed Aurora Sun, in Medicine Hat, Alberta. The facility is expected to be ready for cultivation by the middle of 2020.
It's probably an understatement to refer to Aurora Sun as an advanced cannabis-growing facility. Aurora Sun will have a glass roof along with a system to recapture rainwater and melted snow to irrigate cannabis plants. It will have sophisticated automation systems that allow total control over environmental conditions.
Originally, Aurora planned for Aurora Sun to have 1.2 million square feet of growing space. That would have enabled at least 150,000 kilograms of cannabis to be produced at the facility annually.
Now, though, Aurora intends for Aurora Sun to have 33% more growing space -- a whopping 1.62 million square feet. Instead of 150,000 kilograms per year, the facility will be able to produce more than 230,000 kilograms.
If you're keeping score at home, Aurora currently has only one facility, Aurora Sky, that can grow more than 100,000 kilograms of cannabis per year. The company is constructing the Aurora Nordic 2 facility in Denmark, which when complete in 2020 should be able to produce over 120,000 kilograms. In addition, Aurora has bought land and a building in Exeter, Ontario, that will have an annual production capacity of 105,000 kilograms.
But Aurora Sun will be in a league of its own. It will nearly double the capacity of Aurora's next-largest facility. At full operation, the facility's 37 different growing rooms will house more than 1 million cannabis plants at varying stages of growth.
What about the coming supply glut?
You can ask pretty much any observer of the Canadian marijuana market and they'll tell you that a major supply glut is inevitable. Some might think that glut will arrive sooner than others do, but hardly anyone would argue that supply isn't going to surpass demand in the not-too-distant future.
The obvious question is: Why is Aurora increasing its capacity in Canada? It provided a straightforward answer to this question. The company said that additional growing space is being added at the Aurora Sun facility "to support rapidly growing global demand for high-quality medical cannabis in Canada and abroad."
CEO Terry Booth provided a little more color on the decision: "Particularly in newly opened markets, establishing first-mover position and embedding Aurora's market share and brand requires a stable and reliable supply of high-quality cannabis for these markets. The increased scale of Aurora Sun reflects our expectations for the long-term growth in global demand, especially the higher margin international medical markets, which will be faced with significant supply shortages for the foreseeable future."
Although Aurora Sun is in Canada, it appears that the real target for the additional capacity is the international market. And Aurora clearly thinks that these markets aren't in jeopardy of having a supply glut anytime soon.
Don't question their sanity yet
Does Aurora's plan to boost capacity at the Aurora Sun facility make sense? I suspect some will think it's a bad decision. After all, most international medical-cannabis markets are still in their infancy. There's no guarantee that these markets will grow as quickly as projected.
But Aurora could very well be right that there will be supply shortages for quite a few years in international medical markets. And the company is absolutely correct that these markets provide higher profit margins than the Canadian adult-use recreational market does.
I also think that Aurora is prioritizing production costs and flexibility. Aurora Sun's advanced technology should enable Aurora to drive down costs per gram compared with older facilities. In addition, Booth noted that the facility is "designed with flexibility in mind to enable us to quickly meet changing market demands, particularly as breeding and cultivation technologies evolve and as customer preferences and requirements change." The bottom line is that capacity at Aurora Sun will be more valuable to Aurora than capacity at many of its other facilities.
It's possible that a few years from now, we'll look back and be able to say that Aurora's move to boost capacity was crazy. However, I won't be surprised at all if, in retrospect, the decision instead will appear to be crazy like a fox.