Today we will share some insights into the investment cases for both Canopy Growth Corporation (TSX:WEED) and Aurora Cannabis Inc. (TSX:ACB)
SmallCapPower | September 10, 2019: Aurora Cannabis Inc. (TSX:ACB) (NYSE:ACB) and Canopy Growth Corporation (TSX:WEED) (NYSE:CGC) are two behemoths in the cannabis space. As cannabis continues to become an increasingly significant sector, investors will want to know which company is expected to become the dominate market leader. Today, we are going to compare both companies’ performances over the past few quarters.
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Revenue Growth
Canopy Growth Corporation announced financial results for Q1/20 (ended June 30, 2019) on August 14, 2019. Revenue was well below analyst expectations and the stock has fallen by more than 18% since. Aurora Cannabis, meanwhile, is expected to report Q4/19 (ended June 30, 2019) financial results on September 11, 2019, after markets close. Management has provided revenue guidance of between $100M to $107M for the quarter.
Figure 1: Net Revenues: Canopy Growth vs Aurora Cannabis (M $CAD)
Source: Company Reports, Ubika
Note /1: Midpoint of Aurora Management Revenue Guidance for Q4/19, $100M-$107M
Figure 2: Canopy Growth Summary of Quarterly Financial Results (M $CAD)
Source: Company Reports, Ubika
Figure 3: Aurora Cannabis Summary of Quarterly Financial Results (M $CAD)
Source: Company Reports, Ubika Research
Canopy Growth is poised to become a dominate player globally, but its revenues have remained sticky over the past three quarters as more cultivation has been coming online. Canopy Growth’s revenue decreased by 3.8% QoQ to $90.5M, while recreational revenue was down ~$8M compared with the previous quarter, but this was offset by an ~9M increase in international medical sales (Figure 2). This increase in international revenue was due primarily to its acquisition of German-based C3 Cannabinoid Compound Company, which sells full-spectrum, cannabidiol-based medicines in Germany.
Aurora Cannabis Inc’s management has provided guidance for a 59% sequential increase in revenue, which implies a compound annual growth rate (CAGR) of 45% over the past six quarters. The Company expects Q4/19 net revenue to be between $100M to $107M, with net cannabis revenue of between $90M – $95M. Of note, cannabis revenue in this range would be the highest reported so far by any Canadian cultivator. Aurora’s Q3/19 results are highlighted by international revenue of $4.0M. Recreational revenues have been increasing sequentially since the legalization of the adult-use market in Canada. In addition, Aurora Cannabis expects to produce between 25,000 and 30,000 kg of cannabis during the fourth quarter.
Canopy Growth’s recreational sales have been poor over the past three quarters, with recreational revenue down 15% since Q3/18. Additionally, Canopy Growth Corp’s Canadian medical sales have slid ~35% over the past three quarters, while Aurora Cannabis Inc’s have increase by ~30% during the same time frame. We believe that Canopy Growth likely has lost its position as cannabis market leader, with Aurora gaining some of Canopy’s market share.
Figure 4: Cannabis Cultivation (kg): Canopy vs Aurora
Source: Company Reports, Ubika
Cannabis Cultivation
Until the last few quarters, Canopy Growth had a considerable lead over Aurora Cannabis in cultivation, however Aurora has begun to close the gap and now both companies produce similar quantities of cannabis (Figure 4). For the quarter ended June 30, 3019, Canopy harvested 40,000 kg of cannabis while Aurora expects to harvest between 25,000 to 30,000. There likely will be an oversupply of cannabis within the next two years as the 21.8M sq. ft (Financial Post) of cultivation space comes online. As such, kilograms sold is going to become a more meaningful metric than cannabis harvested.
Figure 5: Gross Margins ex-FV adjustments: Canopy Growth vs. Aurora Cannabis
Source: Company Reports, Ubika
Gross margins before fair value adjustments
Probably the most striking contrast between Canopy Growth and Aurora Cannabis is the discrepancy in gross margins between the two cultivators. Canopy Growth’s gross margin contracted by 130 bps to 14.6% for Q1/20 (ended June 30, 2019), while Aurora’s gross margins expanded by 330 bps over the last two quarter in which data is currently available. During Canopy’s earnings call, CFO Mike Lee mentioned that the lower gross margin was due primarily to $16.2M of expenses for facilities not yet cultivating or processing cannabis or facilities that has underutilized capacity. There have also been rumours of crop failures, particularly at Canopy’s BC Tweed facility, which could be contributing to higher costs for the Company, although Canopy Growth is not likely to admit it. Aurora’s gross margins are the second best in the sector (behind Organigram), compared with Canopy, which are some of worse.
Profitability
During Canopy Growth Corp’s last earnings call, CFO Mike Lee mentioned that it could be three to five years before the Company becomes profitable. Aurora Cannabis, however, is expected to become profitable within FY2020. As both companies are establishing global operations the path to profitability is long, however Aurora takes the lead here as it could become profitable two to four years before Canopy.
Goodwill and Intangible Assets
As of June 30, 2019, Canopy Growth had ~$2.5B in goodwill and intangibles on its balance sheet, and as of March 31, 2019, Aurora had ~$3.9B in goodwill and intangibles. Canopy paid $270M for Tokyo Smoke and its seven coffee shops, while Aurora Cannabis paid $3.2B to acquire MedReleaf, $1.1B to acquire CanniMed, and $290M to acquire ICC labs. With all these transactions a majority of the cost was allocated as goodwill. These assets were acquired at rich valuations and if it turns out that either Canopy or Aurora overpaid for these assets, the goodwill could be at risk of impairment for both companies. Goodwill and intangibles are tested for impairment annually by auditors and the auditors could require additional write-downs in order to sign off on financial statements in the future.
Conclusion
Both companies are definitely going to become global players and are poised to benefit from the legalization of Cannabis 2.0 in Canada coming this fall. If there is an edge, though, we would give it to Aurora Cannabis, as the Company has likely taken the position of market leader away from Canopy Growth, has a stronger medical business, has production on par with Canopy, and has a better gross margin.
Shares of Canopy Growth closed Monday’s trading session 2% lower at C$35.70, while Aurora Cannabis stock eased 1% to C$7.91. Canopy stock trades at a market cap of C$12.4B and Aurora shares trades at a market cap of C$8.0B.
Disclosure: Neither the author nor his family own shares in any of the companies mentioned above.
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