Canopy Growth (CGC) burns cash like there is no tomorrow. After gettingnearly $5 billion of investments from Constellation Brands (STZ) from 2017 to 2020, Canopy Growth wasn't able to efficiently use that cash, and at the end of June, its balance sheet showed that the company has only C$975 million in cash reserves. The poor performance and the turmoil inside the business in the last two years resulted in the firing of the company's CEO, Bruce Linton, in July 2019. As Canopy Growth was looking for a new CEO for half a year, its stock has been depreciating and in the last 52 weeks, it lost more than 45% of its value, while the S&P 500 showed a growth of 18% for the same period. There's still a lot of uncertainties surrounding Canopy Growth even though the company got its new CEO at the beginning of this year. While Canopy Growth is able to service its debt, its revenues grow slow, while the business is still unprofitable. Despite cutting its costs in Q1, SG&A expenses are still higher than the business's revenues. For that reason, we believe that it's better to avoid Canopy Growth stock. While the market for medical and recreational cannabis will continue to grow, as more states and countries legalize it, there's no guarantee that Canopy Growth shareholders will benefit from it, as the company continues to bleed cash.
Lots of Uncertainty Ahead
As expected, Canopy Growth had another quarter of losses. While in Q1, its revenues increased by 22% Y/Y to $110 million, its net loss for the period was $128 million. Non-GAAP EBITDA was -$92.2 million and it's unlikely that the business will be able to make a profit anytime soon. However, Canopy Growth is not the only company that shows such a poor performance on a constant basis. The table below shows that major public cannabis companies are unprofitable too. This is due to the fact that the legalized cannabis market doesn't have lots of institutional investors, which could've provided the much-needed capital for expansion, and the overall industry itself is in its infancy, as the cannabis is still illegal in many places. While Canopy Growth's gross margin is above the industry's median, its net income margin is the worst among its peers and its stock trades at EV/Sales ratio, which is higher in comparison to the industry's median. For that reason, we believe that Canopy Growth is overvalued and the company is uninvestable at this point.
Source: Seeking Alpha
The problems at Canopy Growth started a long time ago. While Canopy Growth was able to increase its revenues by more than 800% from FY17 to FY20, its net loss for the same period widened by more than 1,700%. While over the years Constellation Brands injected nearly $5 billion of liquidity into Canopy Growth, the company was unable to efficiently use the available resources to become profitable. As a result, at the end of Q1, its cash reserves were C$975 million. The outflow of money is the major problem of Canopy Growth at this stage. As cash depletes, losses continue to mount and growth doesn't accelerate as fast as shareholders want. Considering this, there's a risk that the company might go out of business before it'll be able to become profitable.
Another problem of Canopy Growth is its poor corporate governance. After looking for a new CEO for nearly half a year, the company's board appointed David Klein, who is the former CFO of Constellation Brands, as its chief. While his major goal since day one was to cut the company's costs, he has done the opposite, and from January to March, Canopy Growth's SG&A increased by 17% Y/Y. At the same time, in Q1, the company's operating expenses wereC$135 million, which is still above the revenue that the business generates in a quarter. The reality is that until the cash burn problem is solved, the company will continue to be an unattractive investment.
Right now, CBD-infused beverages might be the last hope that the company has. By leveraging the strength of Constellation Brands in the beverage space, Canopy Growth could gain a substantial market share in the CBD beverage business. In Q1, Canopy Growth already shipped 1.2 million units of beverages, which are more than a quarter of 2019 units shipped, as there's an indication that there's a strong demand for the company's drinks. Canopy Growth also continues to expand its Cannabis 2.0 offerings and expands its lineup of products. However, until the company stops to bleed cash, no value will be created.
At this point, Canopy Growth is a speculative stock for trading and should not be viewed as a solid, long-term investment. The possible legalization of cannabis in the United States will undoubtedly push the stock of Canopy Growth and others higher. However, until that happens, the industry will continue to be in its infancy and there's a risk that Canopy Growth might no longer be in the business itself, as it burns too much cash. While 2021 is a transitional year for the company, its Q1 results show that the business will not reach a break-even point anytime soon, and for that reason, the Street continues to believe that Canopy Growth will be unprofitable in the next couple of years. However, it seems that Constellation Brands will continue to support the company to the end with its deep pockets and that's why shorting the stock also doesn't make any sense. Considering all of this, we believe that it's better to avoid Canopy Growth and look for more attractive investment opportunities on the market.
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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.