Some analysts indicate their displeasure with a stock by lowering their price target. Others cut their rating on such stocks. And a few analysts don't hold anything back, expressing their feelings in no uncertain terms.
Count Vertical Group analyst Gordon Johnson in the last category. Johnson recently slashed his price target for Tilray (TLRY) to $4 per share. That's more than 85% below the cannabis producer's current price. The analyst also wrote to investors that they should short-sell Tilray and lambasted the company's performance. But is he right?
There's no arguing that Tilray has turned in a disastrous performance so far in 2019. The stock has lost more than half of its value since the beginning of the year, with a significant portion of that decline coming last week after Tilray announced its second-quarter results.
Johnson called those results "an unmitigated disaster." Tilray badly missed the consensus analysts' earnings estimate, posting an adjusted net loss of $0.32 per share while analysts expected a net loss of $0.25 per share.
One big reason for Tilray's deteriorating bottom line in the second quarter was its big debt load. The company now has $425.4 million in long-term debt as a result of issuing convertible notes. The money raised from those notes has gone to fund ongoing operations and fuel Tilray's dealmaking. For example, Tilray acquired hemp foods company Manitoba Harvest earlier this year for 150 million Canadian dollars in cash plus CA$127.5 million in stock.
Another major contributing factor to the company's earnings miss was its massive increase in spending. Tilray's operating expenses nearly tripled from the prior-year period to $44.8 million. Because of its significant level of debt, the company's interest expense also soared to nearly $8.6 million.
At least a little mitigated
I don't agree with the Vertical Group analyst that Tilray's Q2 results were an unmitigated disaster. They weren't great, mind you, but there was at least a little mitigation.
Tilray's recreational cannabis revenue during the quarter, for example, totaled a little over $15 million, a 90% increase from the previous quarter. Its medical cannabis sales in Canada jumped 117% from the first quarter to $9.1 million. The company reported international medical cannabis revenue of $1.9 million, more than double the sales posted in Q1.
Granted, Tilray's total cannabis revenue of $26 million is far short of rivals such as Aurora Cannabis and Canopy Growth. Aurora expects to report net revenue of at least CA$100 million in the quarter ending June 30, 2019. Canopy announced net cannabis revenue in its fiscal 2020 first quarter of CA$90.5 million, well below expectations.
Aurora's market cap is roughly twice that of Tilray, while Canopy's market cap is around triple the size of Tilray. You'd think that Tilray's revenue would be somewhat proportionate to these levels, but it's instead well below half of Aurora's revenue and one-third of Canopy Growth's.
But we've just been focused on cannabis revenue. Tilray reported $19.9 million in sales from its Manitoba Harvest hemp foods business. Adding in this figure makes Tilray look more attractive in comparison with its bigger competitors.
If Gordon Johnson is right that Tilray's share price will plunge to $4 per share, selling the stock short is a great idea. My view, though, is such short-selling could be shortsighted.
There are two big problems that I see with shorting Tilray right now. First, the stock's short percentage of float already stands at above 31%. That's a high level. Borrowing shares to short-sell Tilray comes with a hefty premium. Second, the company could have positive catalysts on the way, notably including the launch of the cannabis derivatives market in Canada this October. Any good news for Tilray would probably create a short squeeze scenario.
I suspect the odds of a short squeeze occurring are a lot better than the odds of Tilray's share price falling to $4. Keep in mind that this price level translates to a market cap of around $300 million. Tilray should be on track for annual revenue this year of close to $180 million. With that much revenue and the potential for growth in the global cannabis market and the U.S. hemp market, I don't see Johnson's prediction coming true.
Don't get me wrong, though: I'm not a fan of Tilray. I think the company will have to raise more cash next year, which would result in either more debt or dilution in the value of existing shares through a stock offering. While I don't expect a massive meltdown for Tilray along the lines of what Gordon Johnson envisions, my view is that there are much better cannabis stocks to buy.