It's incredible what a difference a year can make.
At this time last year, expectations for the marijuana industry were (pardon the pun) high. Canada had somewhat recently launched recreational weed sales, and our northerly neighbor was preparing for the launch of high-margin derivatives, such as edibles, vapes, and infused beverages. Meanwhile, numerous U.S. states looked to be on the verge of legalizing recreational pot.
Then the rug was pulled out from beneath pot stocks. Over the trailing 12 months, there's probably not a collectively worse-performing group of stocks than cannabis. Everything from supply issues to a resilient black market has stymied marijuana stock growth over the past year, and previously bloated valuations have come crashing back to Earth.
One such stock that's taken it on the chin is Aurora Cannabis (NYSE:ACB). Aurora just so happens to be the most widely held stock on millennial-focused investment app Robinhood. But as investors have discovered, popularity and profitability don't necessarily go hand in hand. Since mid-March 2019, Aurora's share price has declined by about 91%.
For some marijuana stock investors, this decline in Aurora Cannabis looks to be the perfect buying opportunity. After all, this was a company that, just nine months ago, was projected to lead the world in legal cannabis production and had access to more overseas countries than any other licensed producer in Canada. But here are five very good reasons why investors should keep their distance and not buy Aurora Cannabis.
1. No immediate path to profitability
To begin with, Aurora Cannabis is still a long way off from officially generating a recurring profit. And profits are more in focus now, given the coronavirus disease 2019 (COVID-19) crash, than in recent memory.
With supply bottlenecked in Ontario due to an inadequate number of dispensaries being opened since October 2018, Aurora Cannabis' management team has chosen to focus on pushing toward profitability by slashing costs. Within the past six months, the company has halted construction on two of its largest cultivation farms (Aurora Sun in Alberta and Aurora Nordic 2 in Denmark), announced that it would put the 1-million-square-foot Exeter greenhouse up for sale, and cut 500 jobs. While cost-cutting was likely a necessity given the willy nilly expansion of the Canadian pot industry, growth by cost-cutting can only take Aurora Cannabis so far.
Based on Wall Street's current estimates, don't expect Aurora to be profitable on a recurring basis until at least fiscal 2022.
2. Ongoing share-based dilution
From tiny cannabis companies to the most popular pot stocks, financing is a big problem right now – even for a well-known name like Aurora Cannabis. Despite marijuana being legal in Canada, no bank that can read a balance sheet or income statement is going to give Aurora a large loan. Thus, the company's only means of consistently raising cash over the years has been to sell its common stock.
Though selling its common stock has been effective, it's absolutely destroyed shareholder value. Between June 2014 and December 2019, Aurora's outstanding share count has risen from approximately 16 million to 1.17 billion!
Making matters worse, the company's management discussion and analysis, posted following the end of its fiscal second quarter, showed $156.3 million Canadian in cash and cash equivalents, CA$26.1 million in marketable securities, and CA$373.6 million in short-term liabilities. In layman's terms, the company's expected costs for calendar year 2020 broadly outweigh its available cash.
3. A high probability of a writedown
Speaking of ugly balance sheets, Aurora Cannabis gets my nod for worst in class.
Aside from an expected cash shortfall, Aurora has also built up quite the mountain of goodwill – i.e., the premium paid above and beyond tangible assets when making an acquisition. Since August 2016, it acquired more than a dozen businesses, practically all of which were grossly overvalued in hindsight. Even after taking a CA$762 million writedown during the fiscal second quarter, Aurora is still left with CA$2.41 billion in goodwill on its balance sheet. That's roughly twice its current market cap, and it still represents 52% of total assets.
What's more, the writedown Aurora took in Q2 2020 was primarily reflective of its overseas assets in South America and Denmark. To me this is maddening, because the company's most overvalued acquisition of all was its CA$2.64 billion purchase of Canadian licensed producer MedReleaf. With Exeter now up for sale, all Aurora ever received for its CA$2.64 billion purchase is 35,000 kilos of annual cannabis output and a handful of MedReleaf pot brands. In short, big writedowns still await.
4. It's "stuck" with idled assets
Fourthly, investors can't overlook the fact that cost-cutting is going to leave Aurora Cannabis with a lot of nonproducing assets.
Don't get me wrong – I do believe the best course of action for Aurora Cannabis is to lay off workers and idle production given that domestic retail channels aren't yet prepared to handle the type of output Aurora is capable of. But there's no denying that going from more than 650,000 kilos in peak projected annual output to less than 250,000 kilos of run-rate annual output (based on what's currently operational) is going to sting.
Another problem here is that there's no readily available way to sell these assets if Aurora needs cash. Given the persistent problems Canada's pot industry has faced, and the lack of traditional financing options available, Aurora is basically stuck with a number of nonperforming or underperforming assets.
5. Delisting may be imminent
As the icing on the cake, Aurora Cannabis has spent much of the past month trading below $1 a share. Even with the stock market bouncing decisively off of its lows, Aurora Cannabis' stock has hardly budged.
In order for public companies to remain listed on the New York Stock Exchange, they need to maintain a minimum share price of $1. The good news is that Aurora could appeal a delisting notice, should it receive one, and hope its share price rebounds to north of $1 on a consistent basis. But given its mammoth number of outstanding shares, the company already has an arguably bloated market cap of nearly $1 billion at less than $1 per share.
With the possibility of delisting on the horizon, investors have more than enough reasons to steer clear of Aurora Cannabis.