In case you missed it, there was a pretty big cannabis industry story mixed in with the "beating" the stock market took to begin the week.
On Monday, Feb. 24, analyst Vivien Azer at Cowen Group (COWN) released a research note that detailed her firm's downgrade of a trio of marijuana stocks. If the name rings a bell, it's because Azer was the first analyst on Wall Street to offer broad coverage of the cannabis industry.
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The most popular pot stock, Aurora Cannabis (ACB -3.65%), was downgraded to market perform from outperform, with its target price slashed to $2.50 Canadian ($1.88) from CA$6. Both Tilray and Sundial Growers faced a similar fate, with downgrades to market perform from outperform. Tilray's price target wound up being halved to $20 from $40, with Sundial's price target beaten down to $1.50 from $10.
"Headwinds that have plagued the industry (pricing, stores, inventory) do not appear to be fading as anticipated, while 2.0 [a reference to Cannabis 2.0 derivatives] is likely not the elixir that the market was hoping for. Canopy Growth remains our only outperform rated stock among the Canadian LPs," said Azer.
But this wasn't the only surprise. Azer and her team also reduced their total market-sales forecast for Canada in 2020 to CA$3.5 billion ($2.63 billion), which is 32% lower than what Cowen Group had previously forecast for combined medical and adult-use sales in 2020. Azer and her team blamed this reduction on the slower-than-expected rollout of Cannabis 2.0 products, an influx of value-based brands, and shortages of edibles in some dispensaries.
While these rating, price-target, and total-sale adjustments could simply be chalked up to a bit of an industry shakeout, I believe it demonstrates that Wall Street --or at least some very prominent analysts covering the pot industry -- is completely out of touch with reality.
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Aurora Cannabis' struggles show how out of touch Wall Street is
Take, for example, Azer's assessment of Aurora Cannabis. Aurora has been on a seemingly slippery slope for months. In November, the company announced plans to halt construction at two of its largest cultivation farms and recently announced its intent to sell the Exeter greenhouse for a meager CA$17 million. With just six grow rooms being utilized from Aurora Sun (one of the two facilities where remaining construction was halted), Aurora's peak annual output has been cut by what I suspect is more than 400,000 kilos.
Then, 18 days prior to Azer's downgrade, Aurora Cannabis unleashed a mammoth corporate update that included the resignation of longtime CEO Terry Booth, updated debt covenants, a reduced credit line, and the understanding that it would be taking a mammoth writedown in the fiscal second quarter. One week later, on Feb. 13, Aurora would deliver its Q2 2020 results. The company lost CA$1.3 billion and saw its selling, general and administrative (SG&A) expenses rise to CA$99.9 million. As a refresher, management stated a week earlier that its goal will be to get SG&A down to CA$40 million to CA$45 million per quarter.
All the while, until Monday morning, Cowen Group and Azer held an outperform rating on the company. What once was a CA$14 price target (last March) and a CA$6 price target leading up to Monday has now been shaved to CA$2.50. It took a nearly 85% decline in Aurora's share price before Cowen no longer considered the company worthy of an outperform rating. That, folks, is out of touch with reality.
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Cowen's Canadian sales assessment is (still) likely way too high
Once again, it doesn't just stop with the way Cowen Group has analyzed individual pot stocks like Aurora Cannabis. Evidence that the firm remains out of touch with industry conditions is seen with its CA$3.5 billion sales forecast in 2020.
Retail sales data released by Statistics Canada last week showed that December sales in licensed cannabis stores totaled CA$146.25 million (that's about $110 million U.S.). While this represents an all-time high, it's been slow sledding, with monthly revenue up just 16% in licensed cannabis stores since August. At this type of growth rate, all-in weed sales are only on track for maybe CA$2 billion in 2020.
What's more, Cowen Group details all of the concerns currently facing the Canadian pot industry and then proceeds to gloss over them with a CA$3.5 billion sales projection for the year. The thing is, if consumers are targeting lower-cost value brands, then sales are likely going to come in below expectations as legal providers wage a pricing war with the black market. Likewise, if edibles are in short supply, then growers aren't realizing the amount of revenue they could on these high-margin derivatives.
But the biggest slap in the face might be the lack of credence given to Ontario's new licensing process. While this is going to be a positive over the long run for Canada's most populous province, there aren't any quick remedies that will lead to an uptick in sales. The first new dispensary licenses should begin being issued in April, with a steady uptick in retail stores during the latter half of the year.
In other words, CA$3.5 billion in sales doesn't look remotely achievable in 2020.
To be clear, I don't believe Cowen Group is the only Wall Street firm out of touch with what's really going on with the Canadian cannabis industry. But the tardiness of these downgrades, the magnitude of the price-target cuts, and the still-lofty sales forecast for our neighbor to the north made Cowen the perfect guinea pig to demonstrate how out of touch Wall Street really is.
