HEXO - Tilray: A Cannabis Stock To Avoid

2023-04-11 10:15:45 ET

Summary

• Tilray Brands, Inc. reports another weak quarter, with revenues missing estimates in FQ3'23.
• The Canadian cannabis company agreed to buy out the remaining part of HEXO to again consolidate the cannabis sector.
• TLRY stock remains expensive, trading at over 5x sales while generating no growth.

After another weak quarter, Tilray Brands, Inc. ( TLRY ) again shifted the discussion to an acquisition of another business. The stock will likely trade weak due to the constant integration issues with Canadian cannabis mergers and the failure to grow after prior acquisitions. My investment thesis remains Bearish on Tilray, as the company fails to achieve revenue growth and reasonable margins while chasing another deal.

Another Distraction

Tilray Brands, Inc. already has a massive business, with quarterly revenue of $146 million for the just-reported FQ3'23 period . The problem is that the cannabis company has always had a problem managing this large business, highlighted by the $5 million revenue miss.

The Canadian cannabis company already operates in segments from cannabis in both Canada and International markets to a distribution business in Germany to beverage alcohol and wellness units. The distribution business has $63 million in quarterly revenues, with the primary cannabis business only producing $48 million in revenues.

Tilray just announced plans to purchase HEXO Corp. ( HEXO ) in a take-under deal that doesn't really surprise the market. The biggest question is how Tilray can manage the addition of another cannabis business after failing to make much progress with the prior deal with Aphria in 2020.

HEXO recently reported FQ2'23 results , with revenues slumping 54% to C$24 million and an adjusted EBITDA loss of million. The business would probably collapse on its own, yet Tilray now has to spend time integrating the business while showing no previous ability to combine a business and grow.

In the last year, Tilray acquired Montauk Brewing Company in New York, yet the beverage alcohol business only reported minimal sales growth for the just-reported February quarter. Revenues barely grew $1 million to reach $21 million, though Montauk Brewing was listed as the 10th largest craft brewer at the time of the deal last November.

Again, the numbers continue to reinforce a theory that Tilray seeks far-flung businesses without any base business to fundamentally support these growth projects. The company did report an adjusted cannabis gross margin of 47%, but the company still reported an adjusted loss of $23 million for the quarter with a limited adjusted EBITDA profit of only $14.0 million, or below 10% of revenues.

Tilray's Acquisition Of HEXO - Another Cannabis Deal

The HEXO deal adds to the 12.9% market share of Tilray and includes $215 million in pro-forma annual cannabis sales. At the time of the Aphria deal, the combined company had promised a retail market share of 17.3%, with annual gross cannabis sales in the $232 million range back in 2020.

What the Canadian cannabis company really needs to achieve is internal growth from the existing business units. The beverage alcohol and wellness segment now includes the business units of SweetWater Brewing Company, Breckenridge Distillery, Montauk Brewing Company and Manitoba Harvest, but the combined revenue of these 2 segments fell YoY by several million dollars despite all of these small brands having large growth opportunities. Each individual brand should match the current sales of the combined segments with the distribution capabilities and scale of Tilray.

Not to mention, the company again wrote down inventories and the inclusion of the HEXO cannabis business combined with Tilray Brands only appears to increase the complexity of the operations. Tilray alone has written down $55 million in inventory this fiscal year, to nearly wipe out half of the cannabis gross profits for the year.

As highlighted in the past, Tilray still has a nearly $1.7 billion market cap despite all of these issues. The company has no growth and limited adjusted EBITDA targets of $60 million for the year.

In total, revenue excluding the distribution business were only $80 million in the quarter. Tilray only has an annualized revenue run rate in the $320 million range now for the $1.7 billion market cap.

The company promises an accretive deal for the HEXO business, but the pro-forma numbers from the past don't project the company being able to maintain the combined cannabis market share in Canada. The results of past acquisitions over the last few years suggest the integration will lead to shrinkage of the combined business with lower revenues in the years ahead.

Takeaway

The key investor takeaway is that Tilray Brands, Inc. isn't a buy after reporting quarterly results and announcing the purchase of HEXO. The stock trades for over 5x non-distribution sales and 28x adjusted EBITDA targets for the year.

The cannabis stock is far too expensive in a generally crushed cannabis sector, while Tilray Brands, Inc. shareholders have seen the stock hold up far better than the sector in the last year.

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