Last year, the discussion surrounding Aurora Cannabis (NYSE: ACB) stock was how high shares could soar. Incredibly, heading into 2020, that discussion has shifted to whether or not Aurora can survive.
The ACB stock price is down another 48.2% since I warned investors things could go from bad to worse. Aurora Cannabis stock investors are hoping 2020 will be a rebound year for the stock. But GLJ Research analyst Gordon Johnson recently made a bold prediction that 2020 could be even worse for Aurora.
Johnson initiated coverage of ACB stock with a “sell” rating and a $0 price target for the stock. I agree with Johnson that there is plenty more risk ahead for ACB stock investors. But there are several reasons why ACB stock will never make it to $0. In fact, it may eventually be an exceptional long-term investment.
The Case For $0
Johnson says company insiders selling stock and leaving the company see problems with the long-term outlook, including its revolver debt.
One of the covenants in a key Aurora revolver states that the company’s debt-to-EBITDA ratio has to be below 4.0 by September. Johnson says that stipulation is a ticking time bomb for Aurora. Essentially, it means the company must be profitable by that time.
“We don’t think they’re going to get to profitability,” Johnson says.
He says the so-called Cannabis 2.0 in Canada will be a huge disappointment and potentially even a headwind for ACB stock. Provinces aren’t allowing nearly as many new retail stores to open as Aurora had projected. Some regions are banning vaping products outright.
“We think this is going to get a lot worse before it gets better, and we think that the debt holders are effectively going to end up owning this company, and that’s why we think the equity has…no value” Johnson says.
Why ACB Stock Will Never Hit $0
I believe Johnson makes some good points about Aurora’s near-term headwinds. But I believe Aurora will avoid $0 for the same reason I said financial woes would never drag Tesla (NASDAQ: TSLA) to $0.
No matter how messy Aurora’s balance sheet gets, the company and its products have value. Therefore, it will likely always have the opportunity to raise additional capital and/ore restructure its debt.
Tesla was able to raise capital even during its darkest hours. It may not be pretty at times. This time last year, the prospect of a secondary stock offering priced at under $2 per share would have seemed like a nightmare for Aurora.
At the right price, I believe Aurora should have no problem finding investors to step in and provide additional capital. In fact, at the right price, Aurora could even be a great potential buyout candidate for a large tobacco company, pharmaceutical company or alcohol/beverage company.
Just because ACB stock isn’t headed to $0 doesn’t mean Aurora investors are out of the woods. The biggest risk for ACB stock investors isn’t insolvency; it’s dilution and potential reverse stock splits to maintain its NYSE listing. I’m simply arguing Aurora won’t hit $0 as Johnson predicting. I’m not arguing it won’t hit 50 cents.
What Can Save ACB Stock
At some point down the line, ACB stock may end up being a great long-term investment. While I disagree that shares are going to $0, I still think the stock is too dangerous to own at this point.
I recently outlined all the things the company needs to do in the near-term to win back the confidence of Wall Street. First, Aurora needs to be honest with its investors when it comes to guidance. If investors can’t trust the financial outlook, they are forced to assume the worst.
Second, Aurora needs to prove it has a path to profitability. Aurora may not be profitable by the time September 2020 rolls around. But if the company wants to have any chance at restructuring their debt, they will have to show lenders that they have made progress toward turning a profit.
Third, they need to chill out on the stock-based compensation. It’s clear that dilution has been an issue for Aurora Cannabis stock. In the past three years, Aurora’s share count has already gone from around 100 million to 1 billion.
Finally, Aurora needs to scrap its U.S. CBD business and focus on its core Canadian market. Expanding internationally and investing in CBD would be great, but Aurora is clearly overextending itself.
For now, I recommend investors keep their distance from ACB stock while it works through these issues. However, any news of progress on some or all of the issues I mentioned could be a major bullish catalyst for the stock.
Aurora may end up being a spectacular long-term investment. But at this point the company has a long way to go before its anything more than an extremely high-risk speculative play.
As of this writing, Wayne Duggan did not hold a position in any of the aforementioned securities.
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