Pardon the pun, but the marijuana industry is truly set to grow like a weed in 33 days' time. On Oct. 17, 2018, recreational marijuana will go on sale in licensed dispensaries throughout Canada, making it the first industrialized nation in the world to give adult-use weed the green light.
When fully ramped up, the Canadian marijuana industry is expected to generate billions of dollars annually. This should, as a result of economies of scale and product diversity, make certain pot stocks very profitable. And it's these dollar signs that have investors pushing marijuana stocks into the stratosphere.
In the early stages (i.e., pre-Oct. 17 launch and perhaps the first couple of months following the legalization date), it's really all about angling for as much market share as possible. Perhaps no grower has taken that to heart more than Aurora Cannabis (NASDAQOTH: ACBFF).
Image source: Getty Images.
Aurora Cannabis gets aggressive with capacity expansion
When the year began, Aurora Cannabis was on track to generate just over 100,000 kilograms of annual production when at full capacity. It essentially had its flagship Aurora Sky project, which spans 800,000 square feet and is expected to yield around 100,000 kilograms per year, as well as its smaller facilities, such as Aurora Vie. However, since January, Aurora Cannabis has been acquiring companies and forging partnerships at a breakneck pace.
So far this year, it has completed the monster acquisitions of Saskatchewan-based CanniMed Therapeutics for $852 million and Ontario-based MedReleaf for $2.5 billion. Although Constellation Brands' equity investment of $3.8 billion in Canopy Growth Corp. is technically the biggest "acquisition" in the history of the cannabis space, Aurora's two buyouts rank as the largest completed deals by market value ever for the pot industry.
Then on Monday, Sept. 10, Aurora announced that it was acquiring ICC Labs (NASDAQOTH: ICCLF) for 290 million Canadian dollars, or $221.9 million, a 34% premium to its 20-day volume-weighted average trading price. ICC Labs is a key cog in South America, with an estimated 70% market share in Uruguay, the only other country to legalize recreational marijuana. It also had a license to produce medical cannabis in Colombia.
Image source: Getty Images.
By acquiring ICC Labs, Aurora Cannabis will be gobbling up two already operational greenhouses spanning 92,000 square feet, three outdoor grow sites, and two facilities that are currently under construction, which includes a 1 million-square-foot greenhouse in Uruguay and a 124,000-square-foot production facility in Colombia.
Prior to its ICC Labs acquisition, Aurora Cannabis was on track to produce around 570,000 kilograms of pot at peak production capacity each year. With this newest purchase -- just taking into account the two existing facilities and the two greenhouses being built -- it's not out of the question that its peak annual capacity could near 700,000 kilograms.
Production aside, Aurora Cannabis is destroying shareholder value
As you can imagine, generating more marijuana each year than its peers is liable to come with perks, such as pricing power and being a go-to for long-term supply deals. Then again, this acquisition-heavy strategy of Aurora's has its drawbacks, too.
Both of the company's most recent acquisitions (MedReleaf and ICC Labs) are share-based deals. This means Aurora Cannabis issues common stock to cover the cost of the deal ($221.9 million). In the rare event in which Aurora has used cash and stock to fund an acquisition, the cash component of the deal was derived from a bought-deal offering. A bought-deal offering involves the sale of common stock, convertible debentures, stock options, and/or warrants to raise capital. So in other words, no matter what Aurora Cannabis does to expand its business, it's doing so by constantly issuing common stock or using products like options, warrants, and convertible notes that'll eventually be converted into common stock.
Image source: Getty Images.
Ballooning the outstanding share count has two negative impacts for Aurora's shareholders. First, it dilutes the value of each existing share. And second, it makes it that much harder for the company to generate a meaningful per-share profit. Following its ICC Labs acquisition, Aurora Cannabis should be well over 1 billion shares outstanding after finishing fiscal 2014 with just 16 million shares outstanding. It'll need to generate more than CA$100 million in profit just to produce CA$0.10 per share, which is only good enough for a price-to-earnings ratio of 90! That's not cheap.
Another issue here that's being overlooked is that it could be difficult for all of these acquisitions to gel together. A few years ago, the kingpins of the 3D printing industry acquired dozens of companies but struggled to efficiently integrate them. We witnessed something similar happen during the dot-com era with internet companies. Taking on one large acquisition is one thing, but Aurora Cannabis has been on a nonstop expansion tear in recent months. I'm not convinced it can optimally put the puzzle pieces together anytime soon -- and that's bad for shareholders.
Despite its size and production potential, Aurora Cannabis remains a marijuana stock that I'd strongly suggest investors avoid.
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