An outstanding pot stock that rose when Canada first legalized cannabis seems to be collapsing this year. HEXO (HEXO) saw a fair share of bad news in 2019.
It repeatedly missed its earnings and revenue guidance last year, which put the company in a cash crunch. The resignation of Chief Financial Officer Michael Monahan made investors anxious, dampening HEXO's stock performance. The company lost 70% of its stock value in 2019 and is down 36% year to date. It looks like its bad times aren't over yet as it reported yet another EBITDA loss of CA$4.3 million in its third-quarter results released this morning.
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Struggling times
The worries continued for HEXO in 2020 when its shares fell and traded below $1 on the New York Stock Exchange (NYSE). NYSE's trading compliance necessitates sending out warning notifications to companies whose stock price trades below $1 for 30 trading days. HEXO received a listing notification in April warning it to get its share price above $1 in the next six months. If it fails to do so, NYSE will begin its suspension and delisting procedures. NYSE extended the time limit for HEXO to Dec. 16, owing to the COVID-19 pandemic.
Aurora Cannabis (ACB -2.96%) had a similar case, but it chose to execute a 1-for-12 reverse stock split on May 11 before it could receive a warning from the NYSE. Aurora's shares are recovering after the stock split and have gained 112.4% since then. Aurora also grew revenue 20.4% year over year in its recent third quarter, but it's yet to record a profit.
What are the options?
To avoid getting delisted, HEXO is looking at options like stock dilution to raise more capital. Stock dilution usually doesn't go over well with investors. To earn investors' confidence back, the company has to show better quarterly numbers. In its second quarter, it saw mere revenue growth of 26.9% year over year to 17.01 million Canadian dollars ($12.57 million) and a 17.3% increase from the first quarter.
Canadian cannabis companies' lower revenues last year were the product of the slower rollout of legal stores, rising illicit market sales, and other regulatory delays. Demand was strong, no doubt -- but a lack of legal stores caused a demand-supply imbalance.
In its recent earnings call, HEXO management implied that the delay in licensing and the launch of "Cannabis 2.0" products are a few of the many challenges the company faced in the first two quarters of fiscal 2020. Cannabis 2.0 refers to Canada's legalization of cannabis derivatives, including beverages, edibles, and vapes. In "Cannabis 1.0" Canada only legalized cannabis flower, oils, plants, and seeds, so the next iteration allows for new products in the recreational market.
HEXO had to incur an inventory writedown of CA$16.1 million owing to surplus inventory. Meanwhile, operating expenses rose to CA$281.5 million, compared with CA$39.5 million in Q1. That led to an earnings before interest, taxes, depreciation, and amortization (EBITDA) loss of CA$10.3 million from CA$6 million a year ago. Losses, however, decreased from Q1 2020.
Shares of HEXO and Aurora Cannabis are up 72.4% and 11.6%, respectively, so far in June, while the SPDR S&P 500 ETF has gained 5.7%.
Could Cannabis 2.0 products be the ray of hope?
Even with the pandemic wrecking havoc, investors can still look forward to the potential of Cannabis 2.0 products. Demand is massive for cannabis derivatives, which include edibles, beverages, chocolates, vapes, and concentrates.
HEXO marked its entry into the U.S. cannabidiol (CBD) market through a joint venture named Truss CBD USA with Molson Coors Beverage (TAP -0.75%). The joint venture will explore opportunities to bring non-alcohol hemp-derived CBD beverages to Colorado.
Cannabis beverages are a new and interesting product concept that could capture a large consumer base -- the reason why Canopy Growth announced the launch of its cannabis-infused beverages.
HEXO's new Tsunami flower format also impressed investors and helped revive its stock this month. On June 3, the company announced a new 30-gram medical flower format for its high-THC strain Tsunami for medical cannabis patients. The company previously had to sell smaller product formats to comply with medical cannabis packaging regulations. The new product format will now allow it to receive high-volume orders, which could be a plus point for revenue growth.
While U.S. cannabis companies' revenues are soaring threefold, Canadian peers' figures have been bleak. Overall, marijuana stocks are finally seeing some better days. Hexo reported its fiscal 2020 third-quarter results today before the market opened. Its net revenue minus excise taxes rose 70% from the year-ago period to CA$22.1 million and 30% higher than the second quarter. It also recorded an adjusted EBITDA loss of CA$4.3 million, which is much improved than the loss of CA$8.5 million in the year-ago period and the loss of CA$8.5 million in the second quarter. The stock was up 4.9% by this afternoon. If cannabis demand continues its pace post-pandemic, Cannabis 2.0 products can finally capture the market.
No doubt HEXO is still a risky investment -- but looking at Aurora Cannabis' turnaround, there could be slight hope. For now, HEXO has to strategize carefully while looking for options to raise capital, earn investors' confidence back, and save its stock from collapsing.
