Aurora Cannabis Is Facing a Tricky Catch-22 – The Motley Fool

Aurora Cannabis Is Facing a Tricky Catch-22 - The Motley Fool
Pot Stock Grows on Plant Expansion
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The marijuana industry is budding into a big business model before our eyes. Gone is the notion that this is an industry that simply sells dried cannabis to casual users. Now, the legal weed industry consists of a number of cannabis alternatives, such as oils, vapes, concentrates, topicals, and even beverages, and its targeted at everyone from medical marijuana patients to upscale recreational consumers. This broad reach and ongoing maturation is a big reason Cowen Group expects the global industry to hit $75 billion in annual sales by 2030.

But its also a highly polarizing industry, with some companies arguably having an almost cult-like following. One such company thats the bees knees of pot stock investors is Aurora Cannabis (NYSE:ACB).

There are quite a few factors about Aurora that have convinced Wall Street that the company will succeed over the long run. First, theres Auroras leading production. When the company is running on all cylinders, I believe itll be capable of around 700,000 kilos in peak annual output. With the exception of Canopy Growth at approximately 525,000 kilos in peak yield (also a projection from yours truly), no other grower even comes close to holding a candle to this duo.

But its more than just production that has investors gravitating to Aurora. This is a company thats pushed into 24 total countries, including its domestic Canadian market. These overseas sales channels should come in particularly handy by 2021 or 2022, which is when most of its peers will also be operating at full capacity. Its likely that, given what weve seen in various U.S.-based recreationally legal states, oversupply and commoditization will hit the dried cannabis market in Canada. Therefore, growers with ample overseas sales channels will be in great position to avoid a margin contraction in Canada.

Weve also seen a willingness for Aurora to diversify its product line away from dried cannabis. By honing in on medical marijuana patients, Aurora has focused on a group of consumers thats far more willing to purchase high-margin cannabis alternatives.

However, theres one pretty big piece of the puzzle missing for Aurora that a few of its larger peers, Canopy Growth and Cronos Group, have locked up –namely, securing a brand-name partner.

In March, Aurora Cannabis announced the hiring of billionaire activist investor Nelson Peltz as a strategic advisor. Peltz, the founder of Trian Fund Management, has had success in unlocking shareholder value in the food and beverage industries. This happens to be the area of the market where Aurora would love to find a partner, especially considering managements desire to enter the nonalcoholic cannabis-infused beverage space. Most alternative pot products, including nonalcoholic cannabis-infused beverages, will be legal by this coming fall.

Also, a brand-name partner with deep pockets would bring marketing expertise to the table that Aurora would be able to use as it looks to expand its existing overseas operations and moves into new countries.

But herein lies a big problem for Aurora Cannabis, one that Id go so far as to say is a Catch-22 for the company.

On one hand, Aurora Cannabis is seeking a partner thats willing to invest in the company, much the same way Constellation Brands invested $4 billion in Canopy Growth in November, and Altria invested $1.8 billion in Cronos Group, which closed recently. A cash infusion from a brand-name partner would allow Aurora to really ramp up its inorganic expansion, which has been a major component of its growth strategy since January 2018.

On the other hand, brand-name food, beverage, tobacco, and pharmaceutical companies may be less than enthused about the idea of investing into a company thats constantly financing acquisitions and organic expansion by issuing its common stock like its Monopoly money. Over the past 18 quarters (4.5 years), Auroras outstanding share count has risen by 1 billion shares, to approximately 1.02 billion. This means that if a brand-name investor were to take a position, and even if this investor were to receive warrants to buy additional shares in the company, theyd potentially see their equity stake reduced due to bought-deal offerings and share-financed acquisitions.

In other words, Aurora Cannabis needs capital to satisfy its vision of global expansion, and an equity investment from a brand-name partner would be an easy way to obtain this cash. But brand-name investors are unlikely to take a stake given Auroras penchant for dilution. This was my take on why Coca-Cola walked away from the bargaining table in September after discussions with Aurora Cannabis.

It would be surprising if Aurora hasnt landed a major partner before the end of the year, especially with the addition of Nelson Peltz. But this certainly could explain why finding a partner is tougher than it looks for Canadas top marijuana producer.

Canadian marijuana concern Aurora Cannabis Inc (NYSE:ACB) just announced that is will be expanding its Aurora Sun production facility in Alberta by 33% more than initially planned, in order to meet the ever-growing global demand for medical-grade marijuana. The shares of ACB are inching higher in response, up 1% at $8.89, at last check. 

ACB stock has staged an impressive rebound off its four-month low of $4.58 in late-December, adding roughly 94% in that time frame. In fact, the shares just ended their best quarter since December 2017. The equity spiked to a year-to-date high of $10.32 on March 19, but has since pulled back to its 30-day moving average — a trendline thats served as an area of support during ACBs 2019 rally. 

Despite its outperformance this year, analysts are cautious on the pot stock. Two have doled out a tepid “hold” rating, and only one gives it a “strong buy.” An extended rally could bring bullish analyst initiations of upgrades for Aurora Cannabis shares.

Options traders are taking a more bullish approach. On the International Securities Exchange (ISE), Chicago Board Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX), nearly seven calls have been bought to open for every put in the past 10 trading days. Short interest is on the decline, too, down 5.2% in the last reporting period. The 73.11 million shares sold short now represent less than 8% of ACBs total available float. 

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