Last year was an eye-opener for marijuana stock investors. While the prospect of big-time growth very much remains on the table over the long run, as evidenced by the tens of billions of dollars in sales conducted in the black market every year, 2019 was a reminder that growing pains are a given with every industry. Even one that’s existed in the shadows for decades.
As a result of supply issues in Canada, high tax rates in select U.S. states, and a resilient black market, marijuana stocks have had to make aggressive changes to their business models, and even balance sheets, to better align themselves with current market demand. Perhaps no company stands out more for its recently announced changes than Aurora Cannabis (NYSE:ACB).
Aurora Cannabis finally faces the facts about its ugly balance sheet
Last week, the world’s most popular marijuana stock announced a major overhaul to its corporate strategy and balance sheet. Longtime CEO and co-founder Terry Booth tendered his resignation, with the company announcing a host of plans designed to reduce spending in an effort to generate positive EBITDA. This includes focusing only on domestic and international opportunities that could immediately contribute revenue for the company.
Furthermore, Aurora Cannabis amended a number of terms to its secured debt, which included the removal of EBITDA ratio covenants, but now requires the company to generate positive EBITDA by the fiscal first quarter of 2021. Aurora’s total credit facility was also reduced by $141.5 million Canadian, meaning it’ll likely be even more reliant on stock issuances, should it need to raise capital.
But what stood out most in the company’s corporate update was the admission that certain assets on its balance sheet no longer reflected fair-market value. As such, Aurora Cannabis is planning to take impairment charges of CA$190 to CA$225 million on certain property, plant and equipment, and CA$740 million to CA$775 million on its goodwill, mostly originating from its Denmark and South American assets.
Chances are that this isn’t Aurora’s last writedown, either. This is a company that’s racked up CA$3.17 billion in goodwill from grossly overpaying for more than a dozen acquisitions since Aug. 2016. The writedown announced by Aurora only accounts for about a quarter of the company’s existing goodwill.
Writedowns may be brewing for these pot stocks, too
With Aurora finally coming to terms with its gross overpayment for its acquisitions, it’s only a matter of time before other pot stocks do the same. The following three marijuana stocks are all prime examples of writedowns waiting to happen.
Behind Aurora’s CA$3.17 billion in goodwill (as of Q1 2020) is Canopy Growth (NYSE:CGC), which clocks in at CA$1.91 billion in goodwill. Unlike Aurora, which logged most of its goodwill from a single transaction (MedReleaf), Canopy’s goodwill has built up over time from a number of acquisitions.
What’s particularly worrisome in Canopy’s case is that its goodwill as a percentage of total assets has climbed over time. Although this is a company that closed the largest equity investment in history in Nov. 2018 (a roughly CA$5 billion investment from Constellation Brands), Canopy’s cash, cash equivalents, and short-term investments have shrunk by nearly half over the past three quarters to CA$2.74 billion. As operating losses continue, goodwill as a percentage of total assets is liable to climb. For context, goodwill ended the previous quarter at 23% of total assets.
What looks to be most at risk for Canopy are any dollars it’s spent internationally that have found their way to goodwill. Most medical marijuana-legal overseas markets are still in the process of formulating their policies and import rules, which means international assets are a ways away from paying dividends for Canopy Growth.
iAnthus Capital Holdings
It’s not just Canadian pot stocks that are at high risk of a writedown. Vertically integrated multistate operator iAnthus Capital Holdings (OTC:ITHUF) might just be the prime candidate to write off a good chunk of its goodwill, which stood at north of $440 million (U.S.) at the end of its most recent quarter.
Similar to Aurora Cannabis, iAnthus’ goodwill is primarily tied to a single acquisition: its purchase of MPX Bioceutical, which was completed a year-ago this February. The problem here is that, at 53% of total assets, it’s possible iAnthus never recoups anywhere close to $440.4 million in goodwill as MPX’s assets and patents are developed and leaned on over time.
While it is worth noting that acquisitions are the name of the game for U.S. multistate operators given that waiting for licensing in certain states can be costly and time-consuming, iAnthus’ situation is further magnified by the value of its goodwill being higher than its market cap. At this point, at least a modest impairment charge on its goodwill should be expected.
Lastly, don’t be surprised if Canadian grower Aphria (NYSE:APHA) is among the next pot stocks to write down the value of its goodwill, which stood at CA$669.7 million, as of the end of its November quarter.
For those who may not recall, Aphria has already taken a writedown on a small percentage of its goodwill. Last year, it wrote off CA$50 million tied to its Latin American assets purchase following a request from the Ontario Securities Commission to perform an impairment test on these assets. Since Aphria paid CA$195 million for these Latin American assets, more than a quarter of the value of the deal has already been chalked up as an overpayment.
The remainder of Aphria’s goodwill is primarily derived from its 2018 Nuuvera acquisition, which gave it access to more than a half-dozen foreign markets. Once again, given the slow progress of medical marijuana import needs in overseas markets, at least a partial writedown on the value of Aphria’s goodwill, which represents 27% of total assets, seems more likely than not at this point.