Aurora Cannabis (ACB) has had one wild roller-coaster ride in the past five years, soaring over $147 per share from the low $2’s to over $150 at one point, and now watching shares drop over $110 per share to the $5 range. As Aurora is losing its foothold on the Canadian cannabis market, its performance is slowly swirling down the drain, with the company transforming into a mere zombified shell of what it used to be. Outlook does not look great, reflected by shockingly poor guidance, even as the cannabis market continues to grow.
Earnings for Aurora reflected the woes that the company has been facing. For the 2020 fiscal year, net revenues grew 13.6% YoY, or $33.4 million CAD, from $245.5 million to $278.9 million. However, cost of revenues soared 124%, bringing gross profit before fair value adjustments to a meager $1.67 million, down 98.6% YoY.
Net income for fiscal year 2020 increased more than tenfold, to a $3.31 billion CAD loss, whereas 2019 only showed a loss of $300 million. Even when accounting for the whopping $2.7 billion CAD in impairments, net loss still would have widened by ~100%, to near $680 million. Cost-cutting initiatives are nowhere close to being effective, as operating expenses only fell $3 million YoY (0.6%).
Aurora was unable to capitalize on the shift in decreasing production costs – cash cost per gram fell $0.33 from $1.22 to $0.89 – as the company witnessed a similar decrease in average net selling price per gram. Had net selling price remained near $4.6, performance for the quarter would have been better, but still not able to offset the large losses and impairments that drove performance down significantly.
There’s more to the numbers that could be pointed as negatives, but outlook provided for Q1 is also painting a similar negative picture, even as the company scrambles to achieve positive EBITDA by mid-2021.
Q1’s guidance for net revenue is expected to be solely cannabis, with a range of $60 million to $64 million provided – that’s about 6-13% growth YoY – but that’s also representing another 10% or so sequential decline in revenues.
Soft guidance (and therefore potential weak performance) is not something Aurora can afford here. YoY growth for revenues has fallen off a cliff as the company has struggled to keep a foothold on the Canadian market, and with that, gross profit margin (post-adjustment) has now slipped into the negatives.
Data by YCharts
It’s not something that can easily be fixed, even as Aurora has highlighted attempts to cut costs to fit into its profitability picture. Aurora burned over $300 million in the second half of the fiscal year – over 77% of this cash burn went to fund operations and capital expenditures.
Aurora does note that it is attempting to cut costs – quarterly SG&A expenses are expected to be in the $40 million range, while operational expenses are expected to be reduced by ~$10 million. There’s also a $30 million one-time payment ahead for the contract termination with the UFC, which should save $150 million over the course of the next five years, which, when spread out over that time frame, is not really all that much.
These cost cutting measures aren’t enough yet to save Aurora from ‘zombification’. Aurora has negative operating income, and therefore negative pretax income (seen in negative EBIT/EBITDA). As Aurora still works to pay off over $270 million in debt and interest payments, it’s needing to tap into the financial markets to access cash to cover these costs.
So how did Aurora burn through $300 million for operations, and spend over $200 million in investing activities – how did its cash only decrease by $10 million for the fiscal year? The answer here is dilution.
While in 2019, Aurora’s ‘growth’ story was fueled by cash raised from loans (about $600 million raised), 2020’s story was fueled by equity dilution. Aurora issued $575 million worth in shares in order to be able to cover costs and cash burn rates. It can’t organically do so as it’s yet to become profitable.
This is typical of a ‘zombie’. These companies are typically “unprofitable and cash-poor firms that rely on financial markets to cover their costs…. [and] are usually bad investments, both as equities and credit exposures, and often carry excess volatility due to their distressed business models.” Yet these ‘zombie’ companies don’t all just drift to bankruptcy; they do in fact turn things around, but it takes time and consistent strategic execution to do so, and the risks of ‘re-zombification’ are still high.
That excess volatility is seen within Aurora – shares down over 95% in a year and a half, and a 200% bounce from $5.8 from May 13 to May 21 – that’d the volatility in play.
Bonds are also telling – Aurora’s 2024 convertibles are trading at extremely high yields and significantly low prices – last trade was $53, while last September it had traded between $93 and $101.
Source: FINRA (linked above)
While cash use is still expected to decrease, so is revenue, and pretax profitability is questionable, even at the mid-2021 target. Aurora is seeing positives in production at scale with production costs per gram falling, but similar declines in net selling price offset that. And Aurora’s 142,500 kg annual production capacity is quite huge compared to the amount of cannabis it actually sells – for the second half of the fiscal year, Aurora produced 80,613 kg, but only sold 29,477 kg. While that is offset by grams returned, it’s still not large enough to justify producing at such a scale of capacity.
Source: Investor Presentation
As the cannabis market in the US is expected to continue to grow significantly, it could provide a lifeline to Aurora, but it’s going to come down to a few key things – a reversal of revenue growth to both consistent quarterly YoY growth and sequential QoQ growth, positive pretax earnings, and less reliance on capital and equity markets to fuel cash burn. Aurora’s sales will be driven by a higher percentage of grams sold – it can’t consistently sell just ~36% of what it produces and expect all to go well.
Other expansion globally is likely to provide new earning opportunities and revenue drivers, but at a cost. Expansion into Denmark, where Aurora’s Nordic 1 facility is pending EU GMP certification, and surrounding regions will provide boosts to growth, but at a cost, especially as production scales up. Nordic 1 only has capacity of 10,000 kg per year, while Aurora River, the other EU GMP certified facility, has capacity of 28,000 kg per year. So while Aurora is scaling production above 40,000 quarterly from Q4, available scale to EU is only 7,000 kg quarterly, but will be near 9,500 kg at scale if Nordic 1 gets certified. It’s a small start, and future efforts to scale production much higher will come at higher costs.
Aurora’s new management under Miguel Martin has a lot of work to do to fix the blundering cannabis producer. Its fall from grace in 2018 to now is the product of compounding costs cutting into falling revenues, driving losses to multi-billion levels. Even without the impairments recognized, gross profit after adjustments fell negative, and net loss would most likely have exceeded $660 million, over 100% larger than fiscal year 2019. Aurora is still continuously tapping into debt and equity markets to find cash since it doesn’t have the operational strength to produce solid cash flows, and dilution is high. Operational cost changes and cutting measures won’t save nearly enough to change the need for future dilution and/or debt issuance just yet, although it could ease the amounts raised in the future. Pretax profitability – EBITDA – is key, but at this rate, it’s likely that Aurora won’t hit its target.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
