Cannabis stocks fell Tuesday, as analysts weighing in on Canopy Growth’s new chief executive took a cautious stance, highlighting the continuing challenges facing the company and the broader sector.
MKM analyst Bill Kirk said the news Monday that Constellation Brands’ Chief Financial Officer will become the new Canopy CEO in January should bring needed fiscal discipline to the company, but is not a panacea for all ills. Constellation Brands STZ, -0.19% is Canopy’s biggest shareholder after investing $4 billion in it last year and has already provided the company with a CFO and chief accounting officer.
“We have harped on some of Canopy’s spending items that seem excessive: 1) equity comp greater than revenue; 2) G&A greater than revenue; and 3) inventory levels which likely don’t match the demand curve,” Kirk wrote in a note to clients.
While he expects Klein will move to address those excesses, “the mechanisms to address these issues are: 1) lower head count; 2) lower salaries; 3) lower discretionary pay; and/or 4) inventory destruction. None of these paths, while necessary, are good for morale.”
Even if that plan is executed, estimates for Canopy remain too high, he wrote, noting revenue is currently expected to grow 100% in the next 12 months over the second quarter’s run rate, while operating expenses are also expected to increase.
“This is an unachievable setup for any consumer products company. Mr. Klein brings a much needed fiscal responsibility lens, but the cures are difficult,” said Kirk. MKM rates Canopy as neutral with a fair value estimate of C$23 ($17) that is below its current price.
Seaport Global analyst Brett Hundley said the news confirms that Canopy is now firmly controlled by Constellation, an unsurprising development given the Corona beer maker’s investment is underwater.
“We expect that Klein will move quickly to pursue profitability within Canopy, with an overriding focus on this metric,” Hundley wrote in a note. “Canopy has burned $800MM in cumulative funds over the past two quarters, driving a cumulative adjusted Ebitda loss of almost $250MM.
“Our model assumes deep cuts to SG&A during FY2021, and we feel better about execution of such an occurrence, with Klein at the helm. We also anticipate substantial cuts to capital expenditures and business investment, ahead.” Seaport rates the stock as neutral.
Jefferies analyst Owen Bennett said Monday the news was mixed.
“Positive views (are) likely to be taken around implications for greater financial focus and commitment from Constellation Brands, though also negatives around potential lack of external appetite for the role, and the likelihood of a heavy focus on an unproven beverage category,” he wrote in a note to clients. “Expect financials to continue to underwhelm as domestic Canada struggles continue.” Bennett rates Canopy stock as underperform.
Others noted the news does not solve a major obstacle for the Canadian sector; the shortage of retail stores that has allowed the black market to thrive. The red tape that is holding up licensing has contributed to a sharp selloff in the sector in the past six months as licensed producers are unable to get their product to consumers. Companies continue to post heavy losses as revenue proves elusive and many are now running out of cash and resorting to often dilutive actions to fund operations.
TerrAscend shares TRSSF, -8.74% TER, -4.98% slid 11%, after the company announced a private placement to raise about $20 million, by issuing 10.8 million units at C$2.45 per unit. The Canadian-listed stock was last trading at C$2.38.
Last week, AgMedica Bioscience acknowledged a “liquidity crisis” that requires “immediate interim financing” to implement a restructuring. Wayland MRRCF, -40.29%, meanwhile, filed for creditor protection.
“We expect many more of these stories in the coming months, with only those showing positive financial momentum and/or cash stability likely to succeed,” said Jefferies’ Bennett.
Elsewhere in the sector, Aurora Cannabis ACB, -3.82% ACB, -4.05% was down 3.4%, Tilray TLRY, -3.39% was down 2.9% and Aphria Inc. APHA, -2.56% APHA, -2.09% was down 2.6%, while Cronos CRON, -1.87% CRON, -1.63% fell 1.7%.