Every company makes its fair share of mistakes. Aurora Cannabis (NYSE:ACB) is no exception.
Just over the last 12 months, the Canadian cannabis producer has reported several abysmal quarterly results (although with a pleasantly positive surprise in its most recent quarter). It temporarily lost the right to market medical cannabis in the important German market because of failure to obtain proper licensing. And last week, Aurora revealed its latest error.
The company didn't broadcast that it had made a bad move, mind you. But the big blunder was readily evident nonetheless. Here's what you need to know about Aurora's latest $80 million mistake.
A "transformation" deal gone awry
On June 3, 2020, Aurora announced that is was selling 9.2 million shares of Alberta-based liquor store chain Alcanna (OTC:LQSIF) through a bought-deal offering for total proceeds of 27.6 million in Canadian dollars. The offering represented Aurora's entire stake in Alcanna.
This sale might not seem like a big deal until you understand the history between the two companies. Back in February 2018, Aurora announced that it was investing CA$103.5 million in Alcanna, then known as Liquore Stores N.A., for a 19.9% ownership stake. The terms of their deal allowed Aurora to increase its interest through an additional investment to around 40%.
Aurora Cannabis founder and then-CEO Terry Booth said at the time that the deal was "transformational in scale and scope" for not just the two companies but for the Canadian cannabis industry as well. Both management teams at Aurora and Alcanna thought that the combination of Aurora's leadership in the cannabis industry with Alcanna converting some of its existing liquor stores into cannabis retail locations would create a retail cannabis power in western Canada.
In August 2018, Aurora made a second investment in Alcanna of CA$34.6 million. This transaction upped its ownership to 9.2 million shares. Alcanna was then working to achieve its goal of opening as many as 50 retail cannabis stores under the Aurora brand name by the end of the year with expectations of a booming recreational marijuana market after the scheduled launch in October 2018.
But last week the partnership once viewed as transformational ended. And Aurora wound up losing CA$110 million -- around US$80 million.
Neither Aurora nor Alcanna were able to deliver on their aspirations. Alcanna first faced significant challenges with its core business operating liquor stores.
At the same time that Aurora was increasing its stake, Alcanna reported that it was trying to regain lost market share in its core liquor business. But while the company was up against more intense competition than in the past, that wasn't it's only problem. The Alberta economy had deteriorated overall due to falling oil prices. By November 2019, Alcanna was reporting a myriad of issues, including "one of the coldest and wettest summers in decades" and a marked increase in thefts and robberies in its stores.
What about Alcanna's focus on operating Aurora-branded cannabis stores? By the end of 2020 Q1, Alcanna was operating only 26 retail cannabis stores -- 25 in Alberta and one in Ontario. And its same-store cannabis sales were declining due to increased competition.
Meanwhile, Aurora had its own set of problems. Several years of increased spending put the company in a financial bind. Top executives, including former CEO Terry Booth, left the company. Under the direction of interim CEO Michael Singer, Aurora embarked on an austerity program of sorts with a commitment to generate positive adjusted EBITDA by the first quarter of fiscal 2021, which ends on Sept. 30, 2020, as part of its debt covenants. Despite its big loss, bailing on the Alcanna partnership was a convenient way to raise needed cash for Aurora.
Why the mistake matters
Does Aurora's $80 million mistake with Alcanna really matter for investors now? After all, it was a previous management team operating under a different set of business assumptions that led to the ill-fated deal. It''s unfortunate but all water under the bridge, right? Not exactly.
Unfortunately, there doesn't seem to be much more clarity as to how the Canadian cannabis market will unfold now than there was when Aurora first invested in Alcanna. The deal seemed to make sense back then. But who knew at the time just how challenging the Canadian retail landscape would be? It's fair to say that knowing what the challenges over the next couple of years will be for Canadian marijuana stocks is just as daunting.
My view is that the key takeaway from Aurora's Alcanna failure is that the stakes are much higher now than they were then. Aurora isn't flying high like it was in early 2018. It absolutely can't afford to make a mistake of this magnitude again. Aurora needs to execute almost perfectly to be successful. It won't be easy.