Tilray Stock Is Red-Hot, But It’s Fundamentally Flawed

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Cannabis company Tilray (NASDAQ:TLRY) desperately needed a win with Tuesday’s release of its first quarter of 2019 earnings report. Not only is Tilray stock down more than 38% since the end of March, the share price is only one-sixth of its peak value from September of last year.

Here's Why the Post-Earnings Jump From Tilray Stock Didn't Last

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It got the win. Although the net loss per share widened year-over-year, revenue almost tripled. The top line also topped analyst estimates.

Perhaps the biggest driver behind Wednesday’s initial gain, however, was the discussion of Tilray’s growth prospects. Already partnering with beverage giant Anheuser Busch Inbev (NYSE:BUD) to create cannabis-infused drinks, Tilray stock has massive potential. Company CEO Brendan Kennedy fueled those fires, commenting during the conference call about being “inundated” with partnership requests from Fortune 500 companies.

Still, significant challenges remain, spurring a sharp reversal of Wednesday’s initial rally in the TLRY stock price.

TLRY Earnings Recap

Tilray wasn’t the only name to report last quarter’s earnings on Tuesday. Aurora Cannabis (NYSE:ACB) did as well.

Tilray was decidedly the better performer of the two, however. As evidence, Tilray stock gained nearly 5% on Tuesday and was up another couple of percentage points early on Wednesday. ACB stock rallied about as well as TLRY stock did on Tuesday but unwound those gains and more on Wednesday.

The market celebrated Tilray’s sales. The company’s top line of $23.0 million, even adjusted downward to $21.5 million to account for excise taxes, still topped the consensus outlook of $20.16 million. The adjusted loss of 27 cents per share of TLRY stock, while much worse than the 7-cent loss per share in the year-ago quarter, essentially met analysts’ consensus target.

Gross margins improved sequentially, from 20% to 23%. However, they were well off the 50% level seen during Q1 2018, before Canada had legalized recreational marijuana.

The volatile margins figure reflects investments made in cultivation facilities and accounting rules about inventory valuations. To meet demand, Tilray is buying marijuana from third-party suppliers. This costs the company more than it would to grow that supply itself. That third-party supply, though, may not be a high-quality leaf.

Expenses related to the acquisitions of Manitoba Harvest also took a toll on profitability.

When all was said and done though, investors couldn’t get over the subtle but telling shift in selling prices. While sales volume more than doubled to 3,012 kilograms, the average selling price fell from $5.94 per gram a year ago to $5.60 per gram last quarter. That slide at least partially reflects the ongoing commoditization of marijuana. Unfortunately, this trend will continue to drive prices lower until only the cost-conscious, high-scale players are left.

Perspective Required for TLRY Stock

Take last quarter’s numbers for Tilray stock with a grain of salt, for better or worse. It, like all other marijuana stocks, represents a moving target for several reasons.

One of them is the simple fact that the cannabis market in Canada is new. Prior to October, there was no legal adult-use revenue to report.

The purchase of Manitoba Harvest also added food sales of $5.6 million to the mix, but only for part of the quarter. It’s also arguable that Tilray may be able to better distribute Manitoba’s goods better than Manitoba could on its own. If so, it could set the stage for tremendous growth going forward.

One area where Tilray is lacking is its international exposure. Overseas sales only totaled $1.8 million last quarter. The right tweaks, however, could readily change that for the better.

Still, Tilray boasts some of the primo deals with major names. Aside from the Anheuser Busch partnership, Tilray has inked a supply deal with pharmaceutical giant Novartis (NYSE:NVS). Both could be game-changers once their upsides are fully realized. But it could take several quarters for either large company to decide what they want with their cannabis journey.

Selling more marijuana at ever-shrinking prices isn’t necessarily a big step in the right direction.

Whatever the case, Tilray’s most immediate problem is clear. “Our growth internationally and in Canada continue to be limited by lack of supply that we expect to improve over time,” explained Tilray Chief Financial Officer Mark Castaneda during the earnings conference call. The company believes it could take up to two more years before supply and demand find an equilibrium. It remains to be seen where the TRLY stock price will stabilize once that equilibrium is met.

Looking Ahead for Tilray Stock

TLRY shares may have initially shot higher in response to first-quarter earnings, but the bounce appears almost pre-planned. It was poised to take shape no matter what due to the sheer severity of the selloff leading into Tuesday’s news. Little revealed about the quarter implies much has actually changed since the end of Q4. Everything has just scaled up, including the loss, and the bears were relentless.

Those same bears dug in again on Wednesday, recognizing that simply selling marijuana doesn’t ensure meaningful or even modest profitability.

That’s also true of rival marijuana companies, by the way. The entire industry is spending huge sums of money to garner a piece of a market that may not justify the expenditures.

Though he was speaking of the decision to establish more capacity rather than arrange for more cultivation, Kennedy’s comment about believing “all the hype 18 months ago” rang out alarmingly. He essentially summarized the hype surrounding the cannabis market for the past year-and-a-half.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can learn more about James at his site, jamesbrumley.com, or follow him on Twitter, at @jbrumley.

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