Canopy released their December 31, 2020 earnings Tuesday February 9, 2021.  They published financials after their earnings call, much to my chagrin.

And this catches my eye from presser on February 9, 2021.  I think I will keep this at the top of future Rundowns so we can track progress.

“Medium-Term Financial Milestones (from February 9, 2021 earnings release)

With our new strategy in place, our organizational changes complete, and our operational cost savings program now underway, the Company is in position to establish the following medium-term financial targets:

• Net revenue CAGR of 40%-50% from FY 2022 to FY 2024;
• Positive Adjusted EBITDA during the second half of FY 2022 and 20% Adjusted EBITDA margin for the full year FY 2024; and
• Positive operating cash flow for the full year FY 2023 and positive free cash flow for the full year FY 2024.”

Constellation has until November 1, 2023 to pull trigger on increasing ownership to +50% with an $4.5 billion (88.5 million shares at $50.40) incremental investment.  The above are the milestones that Constellation, and their shareholders, will be watching… closely.  Canopy will need to be positive operating cash flow by March 31, 2023, on their way to positive free cash flow as they approach the November 1 milestone approaches unless the guidance changes.

Constellation would need to raise funds for the CAD 4.5 billion, as they only have USD 152 million on the balance sheet at November 30, 2020.  They would either need to add +40% to present term debt of USD 10 billion or CAD 5 billion to the USD 14 billion equity box.  This is waaaaay more than answering the question “Are the warrants in the money”, justifying another $4.5 billion investment for another 15% of Canopy.  If I were a betting man…. They will kick out the dates again as they did when they added 18 months to the previous April 1, 2022 milestone.

What I said last Q:

Pluses

• Progress on revenue with cannabis sales up 18%
• Dry flower rebounds with a +59% increase to $64 million QoQ

Minuses

• Gross Margin has a $28 million “under absorption of fixed costs”.  I said this last time, but this is their biggest headwind for foreseeable future.
• Opex backslid increasing $3 million to $169 million
• SGA + R&D is four times GM.
• Impairments of $46 million on PPE and $95 million on expected credit loss on PharmHouse
• EBITDA while improved $7.5 million it remains the worst in industry by double any other LP at -$86 million.

This Q:

I have been duped… I have been trending CGC Recreational form factors of dried, Oil and 2.0 products. I have been isolating their B2B and B2C, BUT the light just went off for me that they ALSO include what they are selling at their stores in Recreational form factors summary: including other LP product as well as double counting the “reselling” their own manufactured product. IMO, this by form factor figures should remove the $20 million they sold from stores.

Pluses

• Cash and Short-Term investments $1.6 billion
• Sales increase +12% split between rec +$4.2 million +5.5%, Medical +$4.2 million +12.8% (almost all International) and +$11 million + 25% in Other.
• *Dried flower, which was up 60% last Q, (*includes ALL flower sales through the B2C channel including other LPs flower sold at Tokyo Smoke owned stores) increased 4% or by $2.3 million.
• Other revenue increased 25% QoQ
• EBITDA improvement of $18 million.

Minuses

• Gross Margin 16% with $15 million in restructuring charge that if backed out would lead to 26% GM.  
•  “under absorption of fixed costs” of $13.9 million.  I said this last two times, but this is their biggest headwind for foreseeable future. Had this also been reversed from GM, GM would have been 36%.
• SGA & R&D improved by $7 million after increasing $14 million last Q.
• SGA + R&D is 5.6 times GM.
• Impairments of $400 million on PPE on closing cultivation facilities and $14 million more on expected credit loss on PharmHouse
• EBITDA improved $18 million to -$68 million after $7.5 million improvement last Q.  Still remains worst in industry.

Open the financials and Management Discussion and Analysis and follow along.

Overview of Quarter:

Sales:

For the quarter ending September 30, 2020 CGC evidenced $152 million sales net of excise tax, surpassing the previous record of $135 million last Q.  This was a 13% increase from the previous quarter or + $17 million after $25 million last Q.   

Table 1: Revenue

Rec sales were $79 million before excise tax versus $75 million last Q, an increase of $4.2 million or +6%.  B2C bounced back from covid closures the previous Q and the opening of nine more stores in Alberta is underway, sequential growth $1.5 million +8%, while B2B evidenced a $2.7 million +5% increase.  Expect the new stores opened by CGC in the Q to help deliver greater sales next Q.

Medical bounced back from last Q retreat to $37 million or +$4.17 million with Cdn sales flat and international increasing by +$4.1 million.

Cannabis sales net of excise tax increased +7% to $99 million.

Other Sales were up $11 million, for second consecutive Q, or +25% to $54 million. We are getting some segmentation of this now:

• Storz & Bickel +$2.3 million +11% to $24 million
• This Works +$3.1 million +40% to $11 million
• The balance includes Biosteel, CBD US business and clinic partners was +$5.3 million +40% to $19 million
• Note: Biosteel also had negative Net Income of $6.3 million which is a slide from last Q loss of $4 million and exceeds the first two quarters of ownership loss of $6.1 million.  Ramping costs and promotional payments no doubt.

Table 2: Revenue by Form

I put a flag on this as the Revenue by Form also consists of all the product they sell through their Tokyo Smoke stores. This includes double counting TWD and other branded sales PLUS what they sell of other LP products.

Sales mix for Rec continue to shift from pre 2.0 mix of 90-10 Dry-Oil to 80-9-11 Dry-Oil-2.0, respectively.  Provisions remained consistent at $3.8 million in the Q.

• Rec dried saw an increase of $2.3 million +4% reaching its highest level since Dec 2019.
• Oil evidenced an $0.3 million and is holding well at $7.3 million.   
• 2.0 formats increased +20% by $1.6 million to $9.6 million. 
• Rec Provisions stabilized to $3.8 million QoQ from $3.8 million.
• NOTE: These improvements are not solely CGC product sales.

All in Rec was up pre excise deduction by $4.2 million +6%.

Medical is consistent at 24-73-3% split with flower-oil-2.0 with international sales the slight majority

• Medical Dried saw a increase of $0.1 million or 1% to $9.0 million.
• Whereas Oil saw a $3.9 million increase or +17% to $27 million.  This is ahigh water mark.

Gross medical was $37 million pre-excise, an increase of 13% QoQ or $4.1 million.

Other Revenue was $54 million up $11 million QoQ or 25%.

Overall cannabis sales net of excise increased to $99 million from $92 million a high water mark.

Adult Use Revenue: Peer and Trend

Provisions are included in the above. 

Canopy’s is in top position in Adult Rec in Canada, Retail sales accounted for $20 million of sales.

Medical Revenue: Peer and Trend

Canadian medical has stabilized in the $14-15 million sales range at $15.3 million this Q, no change QoQ. ACB remains the market leader followed by Canopy.

International medical sales increased by +$4.1million to $21.5 million a high water mark.

 Gross Margin:

Gross Margin slid from 19% of sales to 16% of sales, for a total of $25 million a $1 million reduction QoQ.  

They do not provide any GM breakdown by segment.  But think of it this way… if their unsegmented “Other Revenue” has a GM of 40% that would be $21 million in GM.  Does that mean cannabis is only $4 million in GM or 4% of sales?

What I said last Q:

Unless they increase usage drastically (via more sales) this figure will be like dragging a boat anchor. That was $18 million anchor last Q is $28 million this Q.  From MDA:

• In the second quarter of fiscal 2021, our gross margin percentage was primarily impacted by operating costs relating to facilities not yet cultivating or producing cannabis, not yet producing cannabis-related products or having under-utilized capacity. In the second quarter of fiscal 2021, these costs amounted to $28.2 million and primarily related to (i) start-up costs associated with our indoor cultivation facility in Newfoundland and our gummy production facility in Smiths Falls; and (ii) under-utilized capacity associated with our chocolate factory and vape production facilities in Smiths Falls.

A break down between (i) and (ii) would have been helpful, as would a timeframe to deal with the issues. At a 40% MYTHICAL GM they would need $70 million in incremental Q sales to absorb the above.

With GM at 19% of sales it was as guided.

This Q:

GM took a $15.6 million hit due to restructuring cost of closing five facilities late in the Q.  Without this hit GM would have been 26%

SGA + R&D is $120 million or 5.6 times Gross Margin.

Table 3: Gross Margin Adjusted for Non-Producing Assets Inventory Step Ups

What I said three five Q’s ago:

• Imagine General Motors in 2008-09 during the bailout saying, “if only we ran our facilities at 100% capacity, we would be profitable.” 

What I said Last two Q:

They have changed how they account for their adjustment to Gross Margin. It is no longer “non live production facilities” (which is indicated in MDA to be a charge of $8.7 million for Denmark, SF gummy line and Newfoundland facility) but “Charges related to flow-through of inventory step-up on business combinations”.

Last Q this item was titled “Q4 2020 excludes (i) restructuring and other charges of $132.1 million related to the impact of restructuring actions; and (ii) $4.7 million related to the flow-through of inventory step-up associated with fiscal 2020 business combinations.”.

I am quite surprised that no longer include the non-live production facilities. Maybe they have tossed out the crutch, as I have suggested.

Last Q:

They finally went and put this silly metric in the Metric Dustbin.  Good riddance!

This Q:

They indicate that they had $13.9 million in unabsorbed overhead this past Q. From MDA:

• Operating costs relating to facilities not yet cultivating or producing cannabis, not yet producing cannabis-related products or having under-utilized capacity. In the third quarter of fiscal 2021, these costs amounted to $13.9 million and primarily related to start-up costs associated with our gummy production facility in Smiths Falls and our facilities in the United States, and under-utilized capacity associated with our indoor facility in Newfoundland prior to its closure in early December, as discussed in “Recent Developments” above.

Without segmentation of the business units it is very tough to glean any useful information.

Gross Margin: Larger Peer Group

CGC is the in fifth place in this peer group.

Gross Margin: North American Peer Group

I do note that Tilray and Aphria have a substantial portion of non-cannabis lower GM% business in their sales mix.

Operating Expenses:

SGA & SBC as % of Sales: Trend

Note: Asset impairments and the like have been moved to Other Income/Expenses to maintain peer comparability.

What I said last Q:

Selling expenses increased to $43 million from $38 million, an increase of $5 million.  They slashed their marketing department two Q’s ago and with covid restrictions improving they appear back out and marketing.

G&A expenses increased to $70 million from $65 million.  An increase of $5 million.  This is an increase over Dec 31, 2019 Q which was $67 million.  No SGA schedule is provided nor any QoQ narrative in the MDA.

This Q:

Trend lines are showing a good decrease, yet still extremely high relative to % of sales.

Selling expenses increased to $54 million from $43 million, an increase of $11 million.  They ramped Martha Stewart Gummies and Biosteel in the Q. From MDA:

• This decrease was partially offset by (i) an increase in sponsorship fees relating to BioSteel’s partnerships deals with the Toronto Raptors and Dallas Mavericks, and promotional and sales and marketing staff compensation costs supporting BioSteel’s launch of ready-to-drink beverages across the United States through their distribution network; and (ii) increased brand and advertisement agency spending in support of our United States CBD business.

G&A expenses decreased to $52 million from $70 million.  A decrease of $18 million. No SGA schedule is provided nor any QoQ narrative in the MDA. I would imagine there is a lot of headcount and non-production facility rationalization.

SBC also saw a decrease to $20 million from $22 million.   This is pretty good given stock price appreciation.  Watch this blow out next Q.

SGA and SBC total 82% of sales a good decrease from 100% last Q.

R&D remained stable QoQ at $14 million. Continued work on yet to be launched beverages, vapes, gummies and CBD.

Depreciation of non-production facilities increased to $21 million from $17 million QoQ.   

Total Opex was $164 million versus $169 million last Q. This represents 108% of sales.

SGA & SBC as % of Sales: Peer

CGC is highest in Aggregate SGA but is the second to Sundial in SGA SBC aggregate.

Net Operating Profit was negative $140 million versus negative $143 million last quarter, for a $3 million improvement. $1 million slide in GM offset by Operating expenses decreasing by $4 million.

+NOP Breakeven: Canadian Peer Group

At current GM% and OPEX$’s CGC needs 567% increase in sales to hit +NOP.

+NOP Breakeven: North American Peer Group

Other Income and Expenses:

This was -$705 million versus the last Q +$47 million.

• Asset impairment of $400 million versus $46 million last Q. Facility closure losses of the five cultivation facilities this Q versus leaving South Africa and Lesotho, and severances and restructuring in the previous Q.
• Expected credit loss on financial asset of $14 million, add that to the $95 million last Q all PharmHouse related. Investment, DIP, and other advances.
• -$0.7 million loss on equity method investment versus -$33 million last Q
• Other loss (below) of $290 million versus +$221 million last Q.

Other Income Table:

• Other Income and Expenses were -$290 million for the Q versus +$221 million last Q.   
  • Fair Value Changes were -$579 million for various investments (Acreage, Terrascend), convertible notes, warrants and contingent consideration versus +$226 million last Q.  The appreciation of Acreage and TerrAscend driving the obligation to purchase at a later date.
  • $7 million interest income
  • $1.0 million interest expense
  • $0.7 million FX loss
  • Other income -$3.4 million

Add $15.6 million in tax recovery and you get a Net Income of negative $829 millionversus negative $97 million last Q.

Adjusted EBITDA:

EBITDA Trend and Peer

EBITDA improved from -$86 million to -$68 million this Q an improvement of $18 million.   This is the best adj EBITDA since the Q ended September 31, 2018.

GM, net of impairment for restructuring, was the bigger driver with cash opex dropping $7 million.

At the 40% MYTHICAL GM, with current SGA & R&D, they would need Q sales increase of $148 million to cover it, almost double current sales.

+EBITDA Breakeven Canadian Larger Peer Group:

Using current GM% and cash OPEX$’s, CGC would need an incremental increase of 278% in sales to post +EBITDA.

+EBITDA Breakeven North American Larger Peer Group:

Cash Flow Statement:

Cashflow from Operations: Trend

Quarterly

• Cash used in operating activities $87 million
• Cash Used (generated) in investing activities $329 million.
• Cash provided by (Source) in financing activities $269 million 
• Net increase (decrease) in cash and equivalents ($478 million).  That is 3.3 Q’s of cash at current usage level.

Opex Burn decreased to $76 million.

Cashflow from Operations: Peer

They slide under ACB.

Balance Sheet Items of Note:

• Cash and marketable securities total $1.6 billion a decrease of $129 million.
• Amounts Receivable increased $14 million to $94 million.  Sales backloaded to the last month can increase the A/R greater than the sales % increase from the Q.  Given December has Holiday Sales this would not be unusual.

• Below is Gas in the Tank… CGC still has an oil tanker.

Gas in the Tank: Trend

• Total inventory is an industry leading $394 million -$4 million for the Q.
• Finished Goods is $70 million a drop from $79 million to last Q. FG will include retail inventory at stores.
• WIP was $254 million down $2 million.
• Raw Materials was down $7 million to $69 million.

Inventory has stabilized in a range between $390-$398 million over past four quarters.

Waterfall: Trend

CGC deleted the last vestige of their KG Harvest and Sold the previous Q.  With Harvest going into the metric dustbi too.

Sold vs Inventory and Production Costs vs Inventory:

On a GAAP basis CGC has 3.5 Q’s of inventory.  Given the $14 million of CoGS tied into unabsorbed overhead this figure might be underestimated.

Cannabis $ Inventory to $ Sales; Peer and Trend

• Canopy and Cronos are reporting as per GAAP so no IFRS fluffing. A good trend line forming.

• I said this two three four five Q’s ago: “Despite Canopy adjust GM for underutilized facilities, I believe they need to sell some of their cultivation facilities. And I believe it still holds true, although this Q might have me re thinking that of they grow again next Q”…. Well, that was prescient… They closed five facilities last Q.

• PPE takes $346 million hit as facilities were closed and sold. PPE is now $1.1 billion.
• Goodwill and intangibles decreases to an aggregate of $85 million with closure of facilities.
• Other financial assets increases by $301 million to $682 million.

• Liability from Acreage agreement increases $303 million on the restructure to $450 million

• Warrant derivative liability increased $193 million to $415 million. Constellation Warrants.

What I said last Q:

A progress quarter in that their main sales driver, dried cannabis, shows some good signs of life.  2.0 products are growing but remain below $10 million Q contribution. The growth in Other revenue was particularly impressive.

With Martha Stewart rolled out and CGC promising US wide Biosteel distribution in early 2021 there are a number of new ventures to follow.  Unfortunately, without any metrics or segmentation you will have to take C-suite word for any improvement.

Gross margin will be a concern until they can work out from under the $28 million in unabsorbed overhead.  Not one analyst asked them about this on the call.

Despite progress EBITDA remains the worst in the industry at -$86 million.

This Q:

A small “p” progress quarter.  If they were not in such negative territory it would likely be leaning to a capital “P”.

Sales increase is largely being driven by Other Revenue and Non-Canadian revenue. Until they get their facilities running at rate that unabsorbed overhead will be absorbed these issues will hang around for a while.

Aggregate cash Opex saw a decent decrease but much more is required.

Until SGA is brought more in line AND a reasonable GM is in hand (likely not for a few more quarters), this oil tanker will move slowly.

That’s all I got.

GoBlue

The preceding is the opinion of the author and is in no way intended to be a recommendation to buy or sell any security or derivative. The author does not have a position in CGC and will not start one in the next five days.