Canada's recreational adult-use marijuana market opened for business last October, and this week, Aphria (NYSE: APHA) reported its first results that include a full quarter of adult-use sales. Unfortunately, mounting losses and lower-than-anticipated revenue caused shares to tumble. Are Aphria's best days behind it? Here are the three most important things you should know about this marijuana stock following its earnings report.
No. 1: Revenue rises, with an asterisk
One of a handful of marijuana companies with licenses to market marijuana in every one of Canada's provinces, Aphria's revenue totaled $73.6 million Canadian dollars in its most recently reported quarter ending Feb. 28, which brought its sales through the first nine months of this fiscal year to CA$108.5 million.
Image source: Getty Images.
Although revenue increased 617% from the same quarter last year, its surging sales had little to do with Canada's adult-use market. Recreational sales were only CA$7.2 million in the quarter, down from CA$11 million in the previous quarter, a period that included just one full month of adult-use sales. Aphria's medical cannabis sales increased 33% year over year to CA$10.6 million, but that was down 2% from the prior quarter, so medical marijuana didn't offer much of a tailwind, either.
So what caused sales to skyrocket? International acquisitions. Acquiring CC Pharma, a drug distributor in Germany, and ABP, an Argentinian pharmaceuticals distributor, added $56 million in distribution revenue to Aphria's results in the quarter.
No. 2: Falling margins and an impairment cause a big loss
The shift in revenue mix from high-margin cannabis to low-margin drug distribution took a big toll on Aphria's profitability. Margins also took a hit from ratcheting back marijuana production last quarter so there'd be enough mother plants for its Aphria One greenhouse expansion, which won approval from Health Canada in March. Lower average marijuana prices in the adult-use market, significantly higher packaging costs, and rising operating expenses were also headwinds.
The new distribution businesses only offer gross margin in the 10% to 15% range, so while they increased gross profit to CA$13.4 million from CA$10.1 million in the previous quarter, Aphria's gross margin plunged to 18.2% from 46.9%.
The company's general and administrative expenses increased to CA$22.4 million from CA$2.8 million, and selling, marketing, and promotion costs were CA$6.95 million, up from CA$3 million one year ago.
Aphria was hit particularly hard by packaging costs last quarter, which increased to CA$1.98 per gram from CA$0.97 per gram. On the company's earnings conference call, management indicated its packaging troubles were due to expensive sourcing to make sure it had enough packaging on hand when adult-use sales began and labor costs.
Profitability was also dinged heavily last quarter by a CA$50 million impairment charge on its Latin American assets. Aphria came under pressure in 2018 from short-sellers who alleged the prices it paid for its Latin American assets were inflated, and insiders had undisclosed conflicts of interest. An internal review earlier this year found prices paid were at the high end of an acceptable range, but its seems the company may still have overpaid given last quarter's charge.
In management's discussion and analysis of its quarterly results, it disclosed its writing down the value of those assets because of "new financial information received from independent third party's review of the LATAM transaction. This new financial information consisted of lower gross margins and EBITDA margins used by the financial advisor for the Special Committee and recent financial information from the LATAM entities that showed higher than expected expenses."
Overall, lower volume, higher costs, and over CA$50 million in impairment charges caused a net loss of CA$108 million, or CA$0.43 per share, in the quarter.
Image source: Getty Images.
No. 3: A turning point approaching?
Aphria's adult-use marijuana sales were a big disappointment, as were its packaging missteps and its impairment charge.
Nevertheless, management's optimistic that Aphria can get back on track. The company's annualized production was below 30,000 kilograms last quarter, but Aphria One's recently approved expansion increases that to 115,000 kilograms annually. The first sales from harvests from that expansion are expected this summer.
Aphria's management said on its conference call that based on current average prices, its anticipated production results in an annual revenue run rate of over CA$1 billion exiting 2020. That run rate doesn't include Aphria Diamond, a new greenhouse that will increase annualized production to 255,000 kilograms once it's up and running.
Management also says it's got a handle on its packaging problems. Aphria is reworking its materials, increasing its use of automation, and hunting for cost savings that could lower costs once its old inventory is gone. If adult-use marijuana sales bounce back, causing distribution sales to account for a smaller proportion of revenue, then revenue mix and improving costs could help Aphria win back investor confidence.
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Todd Campbell has no position in any of the stocks mentioned. His clients may have positions in the companies mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.