Although all eyes are on tech stocks, cannabis may well be one of the fastest-growing industries of the decade. A recently released report from weed-focused analytics company BDSA forecasts that global cannabis sales will effectively double from an estimated $31 billion this year to $62.1 billion by 2026. There's little question that marijuana stocks have an opportunity to show investors the green.
However, even the fastest-growing industries have underperformers. Despite cannabis sales rising worldwide, the following three pot stocks should be avoided like the plague in October.
On the surface, Canadian licensed producer Sundial probably doesn't look all that bad. That's because it has one of the most cash-rich balance sheets in the pot industry. Between cash, cash equivalents, and long-term investments, Sundial is lugging around about $950 million, with no debt. If the U.S. were to ever legalize cannabis at the federal level, Sundial would have more than enough capital to move into the most lucrative marijuana market in the world.
The issue for Sundial is how the company raised this capital. Beginning in October last year, it looked as if management was intent on selling stock and enacting debt-for-equity conversions to rid the company's balance sheet of debt. But it didn't stop with simply eliminating debt. In a nine-month stretch between Oct. 1, 2020 and Jun. 30, 2021, Sundial issued nearly 1.5 billion new shares of common stock.With 2 billion shares outstanding, there's pretty much no hope of the company ever generating meaningful earnings per share. Likewise, delisting remains a possibility unless the company concedes to a reverse stock split.
To make matters worse, Sundial hasn't laid out any clear use for its capital. Though it acquired Canadian retail chain Inner Spirit Holdings, and is devoting capital to a joint venture with SAF Group, known as SunStream Bancorp, Sundial has continued raising money with no specific purpose. This means its existing shareholders are being buried by dilution for no specific reason.
The icing on the cake is that Sundial's cannabis operations have been abysmal. Management decided to shift away from lower-margin wholesale marijuana to focus on higher margin retail cannabis. In doing so, the company has had to rebuild its business from the ground up. This had led to multiple quarters of double-digit percentage sales declines.
What Sundial is showing investors is that penny stocks often trade at penny valuations for a good reason.
The next pot stock to avoid like the plague in October also hails from our neighbor to the north. Ladies and gentlemen say hello to Cronos Group (CRON 4.82%).
Similar to Sundial, Cronos Group is absolutely swimming in cash, cash equivalents, and short-term investments. When the curtain closed on June, Cronos was sitting on almost $1.1 billion. This equates to more than half of the company's currently market cap of $2.1 billion. But unlike Sundial, Cronos brought in this mountain of cash by selling a 45% equity stake to U.S. tobacco stock Altria Group (MO 0.92%) for $1.8 billion in March 2019. Unfortunately for Cronos, a beefy cash position hasn't masked the fact that so much has gone wrong for it and the Canadian weed industry.
From a macro perspective, Cronos' ability to sell its pot products has been negatively affected by the coronavirus pandemic and supply chain issues. The latter is a direct result of regulators slow-stepping the approval of retail licenses in key provinces (e.g., Ontario) following the legalization of adult-use weed in October 2018.
But Cronos has shot itself in the foot, too. Whereas most Canadian licensed producers overextended their capacity, Cronos arguably hasn't done enough. The meager $15.6 million in net sales recognized in the second quarter represents the company's highest quarterly sales after nearly three years of Canadian legalization.
What's more, Cronos Group's partnership with Altria Group isn't paying dividends. Altria has a clear vested interest in seeing Cronos succeed, and is expected to help with derivative product development, marketing, and possibly even distribution efforts. However, this dynamic duo depends on the U.S. federal government altering its stance on marijuana. With reform efforts stalling in Congress, Cronos has few avenues to generate revenue in the U.S.
With the company's expenses ticking higher and its losses widening, Cronos has burned through or spent $700 million of Altria's $1.8 billion cash payment since March 2019. That's more than enough reason for marijuana stock investors to keep their distance.
If there is something positive to report about Aurora Cannabis, it's that the company has plenty of cash on its balance sheet. It ended its fiscal year in June with about $349 million in cash and cash equivalents, and looks to be on its way to recognizing up to $300 million Canadian ($237 million U.S.) in annual cost savings by fiscal 2023. But this is where any semblance of good news ends.
For example, the Canadian pot industry has been setting regular monthly sales records. Meanwhile, Aurora Cannabis' sales are headed in reverse. Though higher-margin medical marijuana sales have been relatively strong, recreational weed revenue has fallen off a cliff (down 45% in the June-ended quarter). That's worrisome given how much larger of an opportunity the adult-use market is, relative to medical cannabis.
Even though Aurora Cannabis has identified multiple avenues with which to cut costs, it's also still burning through cash. The fiscal fourth quarter featured CA$91.8 million in cash use, albeit much of this was from retiring debt and making interest payments. Aurora's previous and current management team have made a habit of promising that positive earnings before interest, taxes, depreciation, and amortization (EBITDA) was around the corner, and they've failed to deliver every time.
Similar to Sundial Growers, Aurora Cannabis is a serial diluter. Taking into account a 1-for-12 reverse split enacted last year to keep the company from being delisted, it had about 1.3 million shares outstanding, as of June 2014. Seven years later, this share count has ballooned to more than 198 million. As long as it keeps losing money, the possibility remains that Aurora Cannabis will keep selling at-the-market shares and diluting its investors.