HEXO: Legal Cannabis Might Not Kill Illegal Market


Nov. 4 2019, Updated 8:24 a.m. ET

HEXO (HEXO), one of the important players in the cannabis space, has been in the news for a while now. The company reported its fourth-quarter earnings on October 28. HEXO’s preliminary results were disappointing with lower revenues. In the fourth-quarter earnings call, the company discussed how it thinks that legal cannabis won’t solve the problem with the illegal market in Canada. Let’s discuss what HEXO’s management said.

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HEXO’s revenues were low in the fourth quarter

HEXO expected lower revenues in the fourth quarter. The company mentioned the lower expectations during its preliminary results. HEXO generated revenues of 15.4 million Canadian dollars compared to 1.4 million Canadian dollars in the fourth quarter of 2018. Sequentially, HEXO saw an increase of 18.2% from the third quarter.

In the earnings call, HEXO mentioned that it increased its distribution across Canada to nine provinces. HEXO and Molson Coors plan to launch beverages in Canada after Cannabis 2.0 started on October 17. Last month, HEXO announced that its joint venture Truss Beverage Company will launch beverages including CBD-infused spring water and beverages containing THC. The company will also launch six cannabis beverage brands.

HEXO isn’t the only cannabis company that teamed up with beverage companies to expand in the beverage market. Canopy Growth (CGC) (WEED) is launching beverages with Constellation Brands (STZ). The company also acquired BioSteel Sports Nutrition Company to expand its product portfolio to CBD-infused health beverages. Canopy Growth will launch 30 cannabis-infused products in the market later this year. To learn more, read Canopy Growth Is Set to Launch New Products.

Tilray and Anheuser-Busch InBev’s joint venture company, Fluent Beverage, will launch CBD-infused drinks in December.

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Legal cannabis won’t kill the illegal market 

HEXO thinks that some provinces in Canada, like Ontario and Quebec, are still struggling to fully legalize cannabis or gain easy access to legalized cannabis. Issues with legalization lead to delayed store rollout, which hurts sales. As a result, HEXO’s management thinks that legal cannabis sales in Canada can’t beat the illegal market until the concerns are addressed. Access to legal cannabis and the in-store experience must be addressed to end the illegal market.

HEXO thinks that it won’t be able to provide any guidance until the cannabis market matures and retail channels are readily available in Canada. For the first quarter of 2020, the company expects net revenues of 14 million–18 million Canadian dollars. The company expects sales to grow by the second quarter and help achieve positive EBITDA in calendar 2020.

Analysts expect HEXO to deliver revenues of 125.7 million Canadian dollars in fiscal 2020. Meanwhile, Aurora Cannabis (ACB) could report 540.9 million Canadian dollars in fiscal 2020. Aphria (APHA) could report revenues of 595.9 million Canadian dollars in fiscal 2020. Analysts expect Canopy Growth to report revenues of 562.6 million Canadian dollars in fiscal 2020. However, the company is still confident about hitting the target for 2020. Read Canopy Growth: Is $1 Billion in Sales Still Possible? to learn more.

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Black market sales are dominating

Recently, I discussed that the illegal market is a major concern for cannabis companies. Canada legalized marijuana in 2018. A year later, data showed that consumers still purchase cannabis illegally. Statistics Canada’s National Cannabis Survey showed that around 42% of cannabis consumers still buy marijuana illegally. Stricter regulations, the strenuous regulation process, and fewer legal shops shift consumers’ interest toward the black market.

Also, a lack of variety in cannabis products and cheaper prices at illegal shops shifted consumers’ interest. With edibles, vapes, and beverages legal now, there could be more variety in the market. Deloitte estimates show that the edibles and concentrate market will contribute 1.6 billion Canadian dollars and 140 million Canadian dollars.

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HEXO’s earnings call

HEXO discussed the reasons for retracting its fiscal 2020 outlook. The company faced issues in retail store rollout in Canada. In Quebec, according to HEXO’s contract with SQDC, it’s supposed to receive approximately 58 tons for year one from all licensed producers. However, supply shortages resulted in less than half of the amount.

Also, the company faces issues in clearly understanding consumers’ tastes. The company is new to the cannabis business. As a result, HEXO is still learning about different marijuana strains.

HEXO also set up a reserve provision to address possible returns from the provinces. For the fourth quarter, the company estimates the reserve provision at 3.8 million Canadian dollars.

HEXO stock in 2019

HEXO stock started off 2019 on a good note. However, the company faced scandal rumors when CannTrust’s (CTST) regulation scandals hit the cannabis industry. October wasn’t a good month for the stock—HEXO lost 45.7%. Aurora Cannabis stock fell 18.2%, while Aphria stock fell 3.6%. Canopy Growth stock fell 12.9%, while Cronos Group stock fell 9.2% in October.

Despite the growing illegal market in Canada, HEXO is still positive about its long-term outlook. The company is raising additional equity to build a capital reserve and fund high-priority initiatives.

For more cannabis-related news and updates, visit 420 Investor Daily


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