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Canadian cannabis companies report QOQ drop in sales to recreational market

Some of the largest Canadian cannabis companies reported sequential declines in revenue from recreational sales during the most recently reported quarter compared to the previous period, according to an analysis by S&P Global Market Intelligence.

Meanwhile, just one of six large public Canadian cannabis companies turned a profit during the quarter, and each of their stocks fell in the 52 weeks through Jan. 3.

A mixed bag

Five Canadian cannabis producers reported C$114.9 million in revenue from recreational cannabis sales during their most recently reported quarter as of Jan. 6, down from C$158.3 million in the previous period, based on a review of the companies' earnings statements.

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Canopy Growth Corp., Aurora Cannabis Inc. and Tilray Inc. reported revenue for the three months ended Sept. 30, while Aphria Inc.'s most recently reported quarter ended Aug. 31, and HEXO Corp. reported results for the quarter ended July 31. The earnings results were released throughout October, November and December.

Cronos Group Inc. also reported for the three months ended Sept. 30 but does not specify its recreational cannabis revenue. The companies did not report year-over-year recreational gains as Canada opened the adult-use market in October 2018.

Distributors and retailers had so much inventory of dried flower and oil products going into the third quarter of 2019 that it led to a decline in orders from licensed producers, said W. Andrew Carter, a Stifel analyst, in an interview. He said because cannabis has to be grown and processed, it takes longer for the supply chain to make corrections.

The cannabis supply chain in Canada will continue its development as companies roll out new products like edibles, extracts and topicals. These products became legal in October 2019 and are beginning to hit store shelves across Canada's provinces.

But cannabis producers face continued competition from the illegal supply: an estimated 42.3% of cannabis came from Canada's illegal market during the second and third quarters of 2019, according to a government survey.

Company-specific factors also contributed to the recreational revenue declines for the most recent quarter.

Canopy Growth took a C$32.7 million restructuring charge for returns, return provisions and pricing allowances primarily related to its soft gel and oil portfolio. Hexo recorded a C$25.5 million impairment loss on inventory, C$16.4 million of which related to an excess supply of trim and milled products. Another C$3.4 million of Hexo's impairment related to a surplus of oil products.

"We are closely monitoring inventory levels," said Hexo CFO Steve Burwash during a Dec. 16 call with analysts.

Including medical sales, revenue for the six companies totaled C$369.8 million for the most recent quarter.

Meanwhile, the same six companies reported C$251 million in combined losses on an adjusted basis before interest, tax, depreciation and amortization for the most recent quarter.

Only Aphria posted a profit for the most recent quarter, with C$1 million in adjusted EBITDA for its fiscal first quarter, compared to a loss of C$4 million a year earlier. The profit was the result of cost-cutting at developing businesses, Aphria CFO Carl Merton said during an Oct. 15 call with analysts.

Stock woes continued

Canadian cannabis stocks declined in 2019 as the industry deals with challenges such as slower than expected development of retail stores and elusive profitability.

Stocks for six of the largest public Canadian cannabis firms fell in the year ending Jan. 3, compared to the 34.8% growth of the S&P 500 during the same period, according to Market Intelligence.

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Tilray shares posted the largest drop, falling 77.1% in the year ending Jan. 3. The company reported mixed third-quarter results Nov. 12, with better than expected revenue but disappointing adjusted EBITDA. Tilray cannot find high-quality dried cannabis flower on the bulk market, CFO Mark Castaneda said during a Nov. 12 call with analysts.

"The pricing of by-product and low potency is continuing to come down, but there is this hole in the market for trying to buy some higher-potency product," Castaneda said.

Its most recent earnings report raised questions about why Tilray is apparently struggling to source quality cannabis on the open market but also selling cannabis wholesale, Owen Bennett of Jefferies said in a Nov. 13 report.

"One conclusion here could be their own grow is not up to a certain standard," Bennett said. "If this is the case, and while they continue to source third party, it could weigh on both brand equity/market share and costs."

A Tilray spokesperson said in an email its global supply chain strategy has always included sourcing additional supply from the international market in addition to cultivating its own cannabis. Oversupply, portfolio product mix and regulatory factors can lead to the company's selling on the wholesale market, the spokesperson said.

When it comes to the adult-use market in Canada, consumers with limited brand knowledge typically use cannabis potency as the measure of quality, the Tilray spokesperson said.

"Companies are finding it challenging to grow high potency, quality cannabis on a large scale," the spokesperson said. "Our wholesale purchase and sale strategy ensures we have the proper portfolio mix to meet demand without allowing the cannabis we cultivate to go to waste."