Cronos Group (NASDAQ: CRON) recently became the last of the big Canadian cannabis producers to report earnings for the fourth quarter of 2019. Just like its larger peers, revenue soared, and so did losses.
You might remember that 17 days into the fourth quarter, Canada began allowing Cronos, and its peers Canopy Growth (NYSE: CGC), Aurora Cannabis (NYSE: ACB), and Tilray (NASDAQ: TLRY), to sell recreational marijuana. Now that we have some numbers for all four of these big players, we can figure out just where Cronos stands among its peers.
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Who sold the most?
Canopy Growth was far and away the top seller during the rollout of adult-use sales in Canada. During the last three months of 2018, total revenue rose 256% from the previous quarter to CA$83.0 million, after accounting for the new 10% excise tax.
Aurora Cannabis was the runner-up, with fourth-quarter sales that grew 83% over the previous quarter to CA$54.78 million.
Cronos Group's fourth-quarter sales growth wasn't nearly as spectacular as Canopy and Aurora. Compared to the third quarter, Cronos Group grew revenue by 49% to CA$5.6 million during the last three months of 2018.
Here's where the wheat begins separating from the chaff and we get to see just how efficiently these businesses produce cannabis. Before adjusting for the fair value of growing crops, Aurora Cannabis reported a cost of goods sold that worked out to 48% of revenue during the fourth quarter, making it the leader on this scale.
Cronos group finished second after reporting that its cost of goods sold reached 56% of revenue during the fourth quarter, which is a lot better than Canopy and Tilray. Tilray doesn't separate fair value adjustments from production costs, which could explain why the company reported a cost to produce goods sold that was 80% of revenue during the fourth quarter.
Canopy Growth does separate fair value changes from production costs, but it didn't help much. The producer with the most revenue was also the least efficient. Cost of goods sold reached 78% of revenue during the fourth quarter, which doesn't leave much to pay for operating expenses that have been growing like weeds.
Operating expenses include lots of different charges that aren't expected to continue. To see how well Cronos Group and its peers performed during the first months of adult-use sales in Canada, let's focus in on sales, general, and administrative (SG&A) expenses. These are costs that aren't getting any lower unless a company starts closing doors and firing employees. Measuring SG&A against the amount of revenue coming in lets us know if a company bit off more than it can chew.
Cronos Group is performing worst on this front, with CA$21.5 million in SG&A expenses during the last three months of 2018, which worked out to 137% of revenue. During the period, operations lost CA$18.1 million. On the same yardstick, Canopy Growth performed best with SG&A that reached just 110% of revenue, although overall operations lost CA$157 million.
During the last three months of 2018, Aurora and Tilray reported SG&A expenses that were 122%, and 129% of revenue, respectively. Tilray's operations lost CA$22.3 million, and Aurora reported a CA$80.2 million operating loss.
What needs to happen
Cronos Group is selling the least amount of cannabis among its peers, and it probably has too many bored employees collecting paychecks while waiting for recreational marijuana sales to reach expectations.
To break even, gross profit needs to rise about 360%, but this stock isn't priced like a company expected to break even. Cronos Group's recent market cap is still up around $3.5 billion, which means investors are expecting sales to reach outer space. If Cronos were priced like a consumer goods company, revenue would have to reach around $1 billion with a 15% profit margin in 2020 for its present valuation to make sense.
If Cronos Group is going to provide new shareholders with long term gains, sales need to rocket higher and fast. Unfortunately, Statistics Canada says licensed marijuana sales reached an annualized $1.2 billion in the fourth quarter, or 21% of total sales if you include the illicit market.
In order for investors buying shares at recent prices to come out ahead in the long run, Cronos Group needs to gain an impossible 80% of the market for licensed cannabis in Canada. That's because sales of licensed cannabis in the Great White North aren't getting any higher. In fact, revenue from cannabis stores was 4.5% less during January than a month earlier.
A look forward
It's going to be hard to build a brand when you can't promote it as you would any other consumer product. Canada insists on plain packaging, and won't even allow personal endorsements or client testimonials. At best a celebrity can be used to promote the company, but not its products.
Tobacco giant Altria (NYSE: MO) has four seats on Cronos Group's seven-member board of directors following a big investment in 2018. With Cronos Group's management team under the watchful eye of a well-run company, there's a chance the company can eventually reign in expenses, and produce a massive profit. Given the crowded industry it's in, though, you'd have to be crazy to bet that Cronos, or any company, will have a run of luck that good.
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