Takeaway: We added Aphria to Investing Ideas on the short side on 8/20.

Stock Report: Aphria (APHA) - HE APHA table 09 12 19

THE HEDGEYE EDGE

In its current form, Aphria (APHA) is basically a Canadian cannabis farmer. In 4Q19, Aphria reported revenues of CAD$128.5 million, including CAD$99.1 million (or 77% of total revenues) from the German distribution company CC Parma (acquired in January 2019). 

The reality is that without CC Pharma, Aphria's Q4 revenue wouldn't have looked nearly as impressive.  Aphria stated that its adjusted distribution gross profit for the fourth quarter was CAD$12.3 million.  Nearly all this amount came from CC Pharma. If this amount is backed out and adjusted for the impact of the net fair value adjustment for biological assets, Aphria continues to bleed cash.

Having followed APHA’s interim CEO Simon Hain very closely during his tenure as CEO of HAIN, we are very familiar with his ability to make things look better than they appear. For years, Irwin claimed to be building a business, yet everything was more hype than substance.  We would also note that on the recent earnings call the interim CEO referenced building “a large US packaged good company.” 

For background, Mr. Simon was early in organic food growth, but he did not build a company that has lasting value.  Operating profits for HAIN have declined 50% over the last 5 years and the future for the company looks bleak.  In the end, HAIN was nothing but a classic roll-up story that failed miserably.

So why should Mr. Simon have any credibility when he say’s “If we look to the future, Aphria will be a consumer packaged goods company with plenty of options in the U.S. market.”  In classic Irwin Simon hype, he said in the earnings call: “we are all working together towards our corporate objective of generating CAD$1 Billion in annualized cannabis revenue by the end of Calendar Year 2020. And with that, margins should substantially improve to fuel our profitability and cash flow.” 

In FY19, APHA did CA$86.3 million in Cannabis revenues, up 139% year-over-year. As of May 2019, the Canadian legal cannabis market is on an annual run-rate of roughly $1B (illicit sales are roughly $5B), so the APHA CAD$1 billion in revenues represents nearly all of the Canadian market in the near-term.

In 4Q19, operating cash flow before working capital declined CAD$7.4 million vs CAD$8.5 million in 3Q19

In 4Q19, gross revenue from medical cannabis was $10,855 versus $11,770 last year and $10,649 in 3Q19, representing a year-over-year decline of 7.7% and only 1.9% increase from 3Q19.  Despite growth in gram equivalents sold, the company can’t maintain medical cannabis pricing as they are selling more of the lower quality Aphria brand.

Irwin likely has one or two more quarters in which he can find low hanging fruit in order to provide an upside surprise. But as he continues to sink his teeth into the company we don’t believe it will be a sustainable business model. Looking past the launch of derivative products we think APHA will shape up to be one of the best shorts among the Canadian LP’s. We believe APHA will be a farmer/supplier to more strategic brand focused cannabis companies long-term.

ONE-YEAR TRAILING CHART

Stock Report: Aphria (APHA) - HE APHA chart 09 12 19