The 3 Most Important Takeaways From Marijuana Stock CannTrust’s Earnings

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Canada's recreational-use marijuana market opened for business last October, and sales across the country are causing revenue to skyrocket at cannabis companies, including at CannTrust Holdings (NYSE: CTST), which reported its fourth-quarter financials on Thursday. The marijuana market opportunity is massive, and that has investors intrigued. But it could be years before these companies are profitable, and that makes marijuana stocks risky. Here's what you ought to know about CannTrust's recent performance before deciding to buy or sell its shares.

1. Sales are soaring

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No surprise. Supplying marijuana to Canada's recreational market was a boon to CannTrust's sales in the fourth quarter. The company reported $16.2 million Canadian ($12.08 million) in revenue for the period, up 132% from Q4 2017. For the full year, net revenue was CA$45.6 million, up from CA$20.7 million in 2017.

It sold 3,407 kilograms of cannabis equivalent, which was 4.5 times the amount it sold in the same quarter one year ago. Sales consisted of 377 grams of dried cannabis and 1,639 kilos of cannabis equivalent extracts to medical consumers. Recreational and other wholesale-channel sales were made up of 1,286 kilos of dried cannabis and 104 kilos of equivalent extract.

2. Production is powering up

A lot of investor attention is focusing on peak annual marijuana production because most Canadian marijuana sales remain on the black market and recreational supply has struggled to meet demand at licensed retailers. Canada's total marijuana spending is about CA$6 billion annually, and only about 20% of that spending occurred at licensed retailers in the fourth quarter.

Last quarter, CannTrust was talking about peak production of about 100,000 kilograms once its expansion projects are complete. However, it's acquiring 200 acres to grow cannabis outdoors that could add between 100,000 to 200,000 kilos of production as early as 2020. Based on its current thinking, it expects to be at 50,000 kilos of production this year, growing to 200,000 kilos to up to 300,000 kilos in 2020. If it executes that plan without a hitch, its production could surpass the No. 3 industry player, Aphria.

3. Watch the bottom line

One of CannTrust's advantages in the past has been getting a larger proportion of sales from high-margin extracts than its peers do. Extract sales are particularly important given that ramping up dried-flower production industrywide could cause dried flower prices to drop.

Last quarter, dried flower sales in the recreational market caused the proportion of sales from extracts to slip, though, pressuring margin. Revenue per gram of dried cannabis fell to CA$7.10 from CA$8.14, while revenue per gram of extracts fell to CA$4.29 from CA$9.34 one year ago.

Excluding fair value adjustments associated with inventory, gross margin in the quarter was 35%, about in line with one year ago, but down from 69% in the third quarter. Full-year gross margin slipped to 57% from 63% because of the fourth-quarter results.

After factoring in operating costs, CannTrust's net loss skyrocketed to CA$25.5 million last quarter, a stark contrast from the CA$6.3 million gain reported in Q4 2017.

What's next

CannTrust's soaring expenses and its margin compression shouldn't be ignored, but investors might want to put them in context. Its spending to win market share in the adult-use marketplace and to ramp up production for future growth could equate to short-term pain for long-term gain.

Management is guiding for sales to "increase significantly in 2019 compared to the 2018 full year results, with revenue growth accelerating throughout the year starting in the second quarter of 2019." Furthermore, it says that near-term spending will weigh on profitability now, but increasing yields and lower cost per gram from scale should allow profitability to "improve following the full realization of the increased operational capacity of the Phase 2 expansion."

Moreover, it says: "As the Phase 2 expansion contributes to positive operating leverage, the Company is targeting a return to profitability. CannTrust expects that its gross margin before fair value changes to biological assets should increase throughout 2019."

If that's correct, then the potential for improving revenue, profitability, and production over the coming year could help this marijuana stock regain its momentum.

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Todd Campbell has no position in any of the stocks mentioned. His clients may have positions in the companies mentioned. The Motley Fool recommends CannTrust Holdings Inc. The Motley Fool has a disclosure policy.