Is Organigram a buy yet?

Pressure on sales and margins are likely headwinds for Organigram (Organigram Stock Quote, Chart, News TSX:OGI) over the near term, says ATB Capital Markets analyst David Kideckel, who reviewed the cannabis company’s latest quarter in an update to clients on Monday.

Kideckel maintained his “Sector Perform” rating but dropped his one-year target from $2.30 to $1.90, representing at press time a projected return of seven per cent.

Moncton-based licensed producer Organigram delivered its fiscal fourth quarter 2020 results on Monday for the period ended August 31, 2020. The company generated net revenue of $20.4 million, up 25 per cent year-over-year, and an adjusted EBITDA loss of $2.7 million compared to a loss of $7.2 million a year earlier.

Organigram launched 40 new stock keeping units (SKUs) since July 2020 and expects to debut up to 18 more in its fiscal Q2 2021. Management said they’re encouraged by initial responses to OGI’s new products while being more focused on capturing topline growth and operating with the financial discipline.

As for the outlook, OGI said staff reductions have led to slowdowns in production, cultivation, processing and packaging capacity which contributed to delays in product launches.

“The Company believes this resulted in some meaningful missed revenue opportunities in Q4 Fiscal 2020 and in Q1 Fiscal 2021,” Organigram said in the Q4 press release. “With substantial retail store growth in play, the Company is evaluating its processes and supply chain, including the benefit of gradually scaling up staffing, to help ensure improved order fulfillment rates and in turn, potentially realize greater sales opportunities. Further, as many of the Company’s product launches are recent and some are still to come, the Company believes it will still take time for the new products to reach their full potential and gain market share to drive meaningful sales growth.”

On the quarter, Kideckel called the results mixed, saying the $20.4-million topline was above his $18.6-million estimate but slightly under the consensus $21.0 million, while the $2.7-million adjusted EBITDA loss was larger than his estimated loss of $0.1 million and the Street’s estimated loss of $0.8 million.

The analyst noted that OGI’s 13-per-cent sequential increase in net sales was primarily driven by a 29-per-cent quarter-on-quarter increase in recreational dried flower sales (mainly in the value segment) and about $2.7 million from international and other sales. Kideckel estimates that over the last few months, the company lost market share across the dried flower, vapes and edibles categories and he estimated that Organigram ended the quarter with about $80 million in total available liquidity.

Kideckel said near-term results may continue to be impacted by lower capacity use, selling prices and production inefficiencies in its new derivative production.

“Over time, we believe sales and margin pressures will dissipate as the Company drives growth through expanded production and distribution of new SKUs. In our view, increased sales will support enhanced production and manufacturing efficiencies for OGI. We also expect that continued overall industry growth (cannabis retail sales in September 2020 grew 5.2 per cent m/m) will provide a tailwind for OGI’s net sales growth,” Kideckel said.

“We believe OGI may continue to face sales and margin pressure over the near-term due to the following factors: (1) lower capacity utilization due to the Company’s reduced growing activity to match lower- than-anticipated demand in the Canadian market; (2) lower average selling prices due to increased competition and product oversupply in the Canadian cannabis market, as well as a higher mix of value brands; and (3) early production inefficiencies for cannabis derivatives as the Company ramps production, with the completion of the Phase 5 expansion and refurbishment of its Moncton facility,” Kideckel wrote.

Looking ahead, the analyst is calling for Organigram to hit fiscal 2021 revenue and adjusted EBITDA of $107.2 million and negative $9.9 million, respectively, and 2022 revenue and adjusted EBITDA of $149.8 million and $9.9 million, respectively.

Kideckel also referred to OGI’s recent additional investment of $2.5 million in cannabidiol biosynthesis company Hyasynth Biologicals, which had its first commercial sale in September. The new money puts OGI’s total investment at $7.5 million, which the analyst said amounts to a potential ownership interest of up to 46.5 per cent on a fully diluted basis. Kideckel said the potential opportunity related to biosynthetic cannabinoids, especially rare cannabinoids, is large, with only a few companies working on development and only two major LPs currently invested in the space, OGI and Cronos.

“We believe that the development and commercialization of biosynthetic cannabinoids may provide significant upside to OGI; however, given that the field is still in its infancy, we do not include this potential upside in our estimates,” Kideckel said.

The analyst indicated that his lower price target comes about due to reduced margin estimates given OGI’s increased value dried flower sales and temporarily reduced manufacturing efficiencies in derivatives, along with share dilution from a recent capital raise.