After four more states voted to legalize recreational marijuana in the 2020 U.S. election, Cresco Labs (CRLBF -3.26%) emerged as but one of many marijuana companies in the market's spotlight. While the stock has lost value since its initial public offering (IPO) in late 2019, the company might be at the very start of its growth journey, as the U.S. market for cannabis products is far from fully realized. Today, Cresco Labs only operates retail locations in nine U.S. states, though this could change rapidly depending on state and local regulations.
So far, Cresco has focused on expanding its collection of cannabis brands and products alongside its retail footprint. After reporting that revenues grew by a shocking 42% quarter over quarter in its Q2 earnings summary, investors have become optimistic the stock might start to deliver sooner rather than later. Could Cresco Labs eventually make millionaires out of people who invest now?
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Cresco's revenue is taking off, and its costs are falling
While the pandemic wreaks havoc on retail sales numbers in most industries, in its second quarter, which ended June 30, Cresco posted revenue increases in excess of 30% in all but one of its state-level markets. The company's year-over-year quarterly total revenue growth stands at 215.5%, which is quite impressive, but probably unsustainable. At the same time, its selling, general, and administrative (SG&A) expenses have fallen by 3.3% to reach $45.2 million, which is around 35% of the company's revenue when one-off expenses are excluded. Cutting costs while expanding revenue is good news, and means that Cresco is making at least some progress toward achieving steady profitability. While it's unclear exactly how soon the company will become profitable, it appears to be on the right track.
One of Cresco's largest strengths is the widespread reach of its products. More than 780 dispensaries carry Cresco's products even though it only has 19 retail locations of its own. The company ultimately plans to focus on wholesale distribution for its branded products in order to maintain profit margins, avoiding the high fixed costs of an extensive retail footprint. At present, more than half of its revenue is derived from wholesaling rather than retail distribution, meaning that Cresco is much less likely to get bogged down in the costs associated with maintaining its own stores.
Scaling is still a large risk in certain markets
Though investors don't need to worry about scaling problems in Cresco's retail footprint, the company has struggled with sizing its cultivation and production capabilities. In total, Cresco's 16 facilities account for around 604,000 square feet in cultivation space, which might be too much for the level of demand that it currently serves. The company was recently forced to consolidate its cultivation facilities in California to keep its overhead down. But simultaneously, Cresco laid the groundwork to expand and upgrade its cultivation and production facilities in Ohio and is making plans to do the same elsewhere.
The company still needs to trim additional costs while growing the reach of its distribution and increasing sales of its products. In particular, it aims to reduce its cost of goods sold (COGS) and its SG&A expenses even further over the next year. Unfortunately, it hasn't made an abundance of progress on the COGS front so far. Company leadership is currently focused on increasing market penetration in the geographical segments in which it already operates, like California, rather than on cutting costs.
Not a millionaire maker...yet
The reach and power of Cresco's brands are admirable, and the company appears to be increasing revenue at a rapid pace. Nonetheless, the company is plagued by high costs associated with production and cultivation of cannabis, like many of its peers in the industry. Furthermore, Cresco hasn't articulated any specific plan that will take it from where it is today to being a consistently profitable and expanding company.
I don't think that Cresco Labs is a millionaire maker for the time being. If its sales continue to grow at the current pace and the company takes concrete steps to curb its costs, I'd be willing to reconsider. But until then, it's still a speculative purchase, and investors have no guarantee that Cresco can successfully scale and reach profitability such that its stock will massively expand over time.
