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3 Potential Surprises to Watch For in Canopy Growth's Q3 Results

By Keith Speights - Feb 13, 2020 at 6:00AM

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Should you expect the unexpected with the Canadian cannabis leader's quarterly update?

No matter how you look at it, Canopy Growth (CGC -3.21%) has lost a lot of its luster. Sure, the Canadian cannabis producer still claims the largest market cap in the cannabis industry. But Canopy has repeatedly disappointed investors with its financial performance, including reporting downright miserable results in its fiscal 2020 second quarter.

The company is scheduled to announce its third-quarter results before the market opens on Friday, Feb. 14. Here are three potential surprises to watch for with Canopy's Q3 update.

Hand holding a white paper bag with an image of a cannabis leaf on it.

Image source: Getty Images.

1. Relatively strong international sales

Canopy reported 72% year-over-year sales growth in international medical cannabis markets in Q2. Much of this growth was fueled by the company's May 2019 acquisition of German cannabinoid drugmaker C3. In addition, Canopy's German medical cannabis business performed well after the company resolved supply constraints that had dampened sales in previous quarters.

But Canopy warned in November that although it's "very confident in the sustained growth of the German market over the long term, management does not expect this level of growth to repeat in Q3 2020." Because of this cautionary note, you might think that Canopy's international sales in the third quarter will be underwhelming.

However, I suspect that Canopy just might post relatively strong international sales that are better than many expect. Why? I think that Canopy could have benefited from Aurora Cannabis' (ACB 3.87%) embarrassing temporary suspension of its medical cannabis license in Germany. Aurora didn't have the required permit to distribute irradiated medical cannabis products in the country but had used radiation to prevent microbial contamination without the permit.

My back-of-the-envelope calculation is that this snafu likely cost Aurora in the ballpark of $2 million. It's not a stretch to think that Canopy Growth could have claimed its fair share of Aurora's lost German revenue during the third quarter.

2. A longer-than-anticipated delay for beverages 

One of David Klein's first jobs as Canopy's new CEO wasn't a pleasant task. Only a few days after taking the helm, Klein had to announce that Canopy was delaying the launches for its cannabis-infused beverages in the Canadian Cannabis 2.0 cannabis derivatives market.

The reason behind the unexpected pushback was that the final details of the scaling process for producing cannabis-infused beverages weren't worked out. Canopy said in a press release that it would provide an update when it announces its Q3 results. This is pure speculation, but I wouldn't be shocked if Canopy says on Friday that the delay for launching its new beverage products will be longer than most people anticipated.

Canopy didn't give any clues about how long it would take to resolve the remaining issues when it initially announced the delay. However, it did state that the pushback wasn't expected to materially impact revenue in fiscal year 2020.

But the fiscal year ends on March 31. I doubt that Canopy was counting on huge sales from its beverage products in the first couple of months on the market anyway. I could be totally wrong on this one, but Canopy's nuanced wording in its initial announcement of the delay seemed like a yellow flag to me.

3. A production slowdown

Even with the postponement of the launch of its cannabis-infused beverages, it seems reasonable to expect that Canopy would be cranking up production with the Cannabis 2.0 market picking up momentum. However, I think there's a not-so-insignificant chance that Canopy could instead say that it's slowing down production.

That might sound crazy but bear with me. Canopy Growth CFO Mike Lee said in the company's Q2 conference call that Canopy's "demand projections assume 40 new stores opening per month in Ontario starting in January." That's not happening. It's not even close. Ontario expects to issue 20 new licenses each month -- beginning in March. 

If Canopy truly scaled up its cultivation operations in anticipation of Ontario opening a lot more stores than will really be the case, the company is going to have more inventory on its hands than it wanted. Sure, Canopy can use some of this cannabis to extract CBD and THC to use in its cannabis derivatives products. But, remember, the launch of beverages has been delayed, so Canopy won't need tremendous quantities of cannabinoids just yet.

I wouldn't bet on Canopy announcing a production slowdown in its Q3 update. On the other hand, I wouldn't bet against it, either.

No surprise

What won't be surprising in Canopy Growth's Q3 results is that it will post another big operating loss. Investing in marijuana stocks, including big players like Canopy, will continue to come with super-high volatility until the cannabis companies are profitable. 

David Klein was brought in to put Canopy Growth on a solid path to profitability. The most interesting part of the company's Q3 update will be what he plans to do to achieve this goal. If Klein doesn't spend time discussing how Canopy will progress toward making a profit, it will be the biggest surprise of all.

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Canopy Growth Stock Quote
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