One of the ways that investors can swing for the fences in pursuit of great returns is by buying stocks that carry some extra risk. And right now, the cannabis industry is chock full of them. These are companies that have the potential to double or triple in value in the medium term -- in large part because their share prices have cratered after a rough year, particularly in the Canadian market.
The Horizons Marijuana Life Sciences ETF is down 1.2% in 2020, far underperforming the broad-market S&P 500 and its 16% gains. But as poorly as the sector ETF has done this year, Aurora Cannabis (ACB 12.90%) and Sundial Growers (SNDL 7.32%) are doing much worse, down 63% and 83%, respectively. However, all hope is not lost for them just yet. Here's how these stocks could generate some major returns over the next 12 months.
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The upside case for Aurora Cannabis
One of the biggest problems for Alberta-based Aurora Cannabis is that it simply isn't making enough money to fund its operations. As a result, it must continually issue more shares, diluting existing shareholders and sending its stock price downward. In its fiscal 2021 first quarter, which ended Sept. 30, Aurora used up 108.5 million Canadian dollars just on its day-to-day operating activities. It also spent another CA$15.8 million on capital expenditures.
However, Aurora is continuing to cut expenses and improve its cash flow. In November, it shut down its Aurora Sun cannabis growing facility and slashed production levels by 75% at its Aurora Sky site. These are major moves for the company, as these were among the company's two most promising facilities. In 2019, then-CEO Terry Booth referred to Aurora Sun as "the next evolution in our Sky Class facility design, delivering massive scale, low cost production, and consistent, high-quality cannabis."
Earlier this month, the company also announced it would be laying off 214 employees, further downsizing after laying off 700 in June.
These cost reductions could pave the way to positive adjusted-EBITDA -- which the company anticipates it will reach in the current quarter. We'll find out when the next earnings report comes out, likely in February). Hitting that target in fiscal Q2 could be key in the company's turnaround. Aurora has struggled with profitability; last quarter, it booked an adjusted EBITDA loss of CA$57.9 million.
Shifting from a bottom-line number so firmly in the red to one that's in the black in one quarter is an ambitious goal, but if Aurora succeeds, the pot stock could soar rapidly. And since adjusted-EBITDA excludes many non-cash items, an improvement on that metric would reflect stronger cash flows. That would be more great news for shareholders, inasmuch as it would reduce the company's need to issue more stock, and would also put it in a better position to fund more growth or potentially acquire another business.
Sundial Growers
Another Alberta-based cannabis company that could make you rich is Sundial Growers, although it's a lot riskier than Aurora Cannabis.
This pot producer's stock price has soared by more than 240% since the start of November (while the Horizons Marijuana Life Sciences ETF is up just 45%). Last month, it announced that it would be partnering with confectioner Choklat to launch a brand of cannabis-infused chocolate products.
On Nov. 11, it also released its quarterly results for the period ending Sept. 30. But with net revenue down 46% year over year to just CA$12.9 million, it probably wasn't the company's top line or management's mention of "price compressions" that got investors more excited about the stock.
In the earnings release, Sundial hinted that a possible deal was in the works, mentioning that it "continues to review potential strategic alternatives." However, it did not say a transaction was imminent, and made it clear that it wouldn't provide any updates until either the review is complete or the board "approves a specific action."
The speculation about a possible deal and the news of Sundial's partnership with Choklat led to a surge in trading volume for the stock.
SNDL Volume data by YCharts
Now that Tilray and Aphria have a merger in the works, other cannabis companies may be on the lookout for similar opportunities to join forces and take advantage of greater scale.
It would be wishful thinking to believe that Sundial can turn its business around on its own. While its partnership with Choklat will help bolster its top line, it will take a lot of work to not just make up for last quarter's large drop in revenue, let alone to generate growth. It's unlikely that the company's business will improve enough to send its shares skyrocketing next year. A suitor paying a large premium to acquire it, however, could quickly accomplish that.
But that's a big risk. If Sundial fails to find a buyer, its shares could slump again. Without sales growth and with an adjusted EBITDA loss of CA$4.4 million in its most recent quarter, there aren't a whole lot of reasons for investors to like the business as it is right now.
In short, this pot stock is highly speculative, and only appropriate for investors willing to take on significant risk.
