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Stocks  | October 7, 2019

On Sept. 11, Alberta-based Aurora Cannabis (NYSE:ACB) released fourth-quarter and fiscal 2019 results that disappointed investors. Yet earlier in August, ACB stock had already decreased its revenue forecast.

So when ACB stock missed the low end of its own guidance, Wall Street held the company accountable for the miss.

As we start the last quarter of the year, I do not expect to witness much positive news to help push up the share price of most cannabis stocks, including Aurora Cannabis.

The Latest Downtrend

At present, Aurora Cannabis is Canada’s largest producer, which gives the company certain economies of scale. Management has set an annual target of 625,000 kilograms per year by the calendar year 2020.

When it released fourth-quarter results for the fiscal year ended June 30, Aurora Cannabis stock missed revenue expectations. ACB stock’s net loss came at $2.3 million CAD on net revenue of $98.9 million CAD, with an adjusted EBITDA loss of $11.7 million CAD.

Analysts had estimated revenue of $108 million CAD. In Q4 last year, Aurora stock had reported net income of $79.9 million CAD on net revenue of $19.1 million CAD. Margins and cash flow in the quarter also disappointed investors.

Investors noted that although ACB stock’s quarterly medical sales grew slightly, Canadian medical markets seems saturated — at least for now. And it is hard to estimate when international sales will start to contribute to Aurora Cannabis stock’s bottom line. ACB’s quarterly global revenues of only $4.4 million CAD would not suffice to push the stock price up any time soon.

As a result of the quarterly results, ACB stock has recently been downgraded.

Earlier in the year, Aurora’s Q3 fiscal 2019 results had also disappointed analysts. Despite the 367% year-over-year revenue growth, ACB had missed analyst estimates in May by a wide margin, too.

Since mid-March, there has been selling pressure on ACB stock. The mixed earnings results for fiscal Q3 and Q4 have put further pressure on the price of Aurora Cannabis shares and other weed stocks. On May 31, it finished the month at $7.59. Following a choppy June and July, August and September were also difficult months for ACB shareholders.

Although, management seemed upbeat in the quarterly call, the price action of ACB after the earnings highlights the severe disconnect with the market.

Currently, Aurora Cannabis stock is hovering around $4. InvestorPlace readers may well remember that about a year ago, in December 2018, ACB stock had seen a 52-week low near $4.60. And short-sellers pushed the stock to a new 52-week low yesterday at $3.80.

ACB Stock Is Still Richly Valued

There is a wide range of issues affecting the marijuana industry. One of the most important points to remember is that cannabis is an agricultural commodity. Quarterly performances of companies like Aurora Cannabis give investors important clues as to how the demand and supply equation is evolving.

And it is likely that the rich valuations in this commodity-based consumer market may take a further hit in the coming months. Canada is still a relatively small market. Annual Canadian sales are not likely to exceed $4 billion.

In the Canadian legal retail market there is an oversupply. And as the largest producer, Aurora Cannabis is likely to have a major supply in its inventory.

On the other hand, the black market is still thriving in Canada. Thus, how can a producer like Aurora Cannabis maintain high margins in an industry that does not have meaningful growth potential?

ACB stock’s disappointing earnings follow several other poor results from large Canadian cannabis companies. And not everyone is convinced that Canadian recreational pot sales will remain strong.

Like many other cannabis producers — such as Canopy Growth (NYSE:CGC) or Tilray (NASDAQ:TLRY) — Aurora Cannabis stock has so far not able to convert the revenue growth into real profits.

Most pot stocks are burning through loads of cash and losing money like there’s no tomorrow. Cash flows are far from predictable. Investors are concerned that the initial hype surrounding the industry could be decreasing further.

Recent price weakness in most pot stocks including ACB has improved relative valuations, but these stocks aren’t cheap. Unless Aurora Cannabis stock improves profitability metrics, I’d be skeptical of any up move in price.

So Should You Buy ACB Stock Now?

The marijuana industry in Canada is still in its infancy. Michael Cammarata, CEO of Neptune Wellness Solutions (NASDAQ:NEPT) doesn’t believe that the cannabis stocks bubble is bursting.

“I don’t think the bubble is bursting by any means, it is actually shifting,” Cammarata told me in an email interview. “The market is turning towards brands and the qualities that make these brands in the space successful. That’s why we have seen such an uptick in cannabis related companies recently, and the market is following that trend.”

Indeed, Cammarata believes that the cannabis sector is en route to becoming part of the consumer packages industry.

As these companies mature, there might be more volatility in the sector in the coming months. Therefore, I’d not be willing to place a big bet on any one company, such as Aurora Cannabis, that is currently experiencing negative investor sentiment.

During October, I expect ACB stock to trade between $3.50-$4.50. If you are an investor who also follows technical charts, $5 has now become a resistance level. For ACB stock to make an up move that can also act as a long-term buy signal, the share price has to go and stay above $5. Yet, from a valuation standpoint, the stock is not necessarily a bargain at $5.

Canada is set to legalize cannabis derivative products like edibles later in the month. The imminent second stage of legalization for the derivative market will likely give a short-lived boost to most pot stocks. Yet the industry should remain pressured unless the leading stocks can improve financial performance, especially profits and cash flows.

The cannabis industry remains speculative at best.  Yet there may still be an opportunity for those with a high risk tolerance. Depending on your risk/return profile, you may consider buying into ACB shares around $4. However, expect nearer-term trading to be choppy at best. Long-term investors should be ready to hold Aurora Cannabis stock for several years.

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