HEXO stock is still a pass, says Roth Capital

Questions abound as to the future of Canadian cannabis name HEXO Corp (HEXO Stock Quote, Charts, News, Analysts, Financials TSX:HEXO), according to Roth Capital Partners analyst Bill Kirk, who delivered a report on the company on Tuesday. Kirk kept a “Neutral” rating on the stock, saying a difficult Canadian marketplace isn’t making things any easier.

Gatineau, Quebec-based HEXO reported on March 16 its fiscal second quarter 2023 financials for the period ended January 31, 2023, posting a $24.2 million topline compared to $52.8 million a year earlier, representing a year-over-year decline of 56 per cent. The company reported positive net income for the first time in its history at $0.7 million compared to a net loss of $56.3 million for the previous quarter and a loss of $710.9 million a year earlier.

“HEXO held firm to our long-term strategy this quarter and remained focused on our most profitable brands and maintaining fair prices,” said Charlie Bowman, President and CEO, in a press release. “While cannabis prices have dropped sharply across the market, it is our view that slashing prices is not a sustainable strategy. We’re confident our products will continue to deliver excellent value to customers and shareholders alike.”

Looking at the numbers, Kirk said Q2 net sales of $24.2 million were below the consensus forecast at $36.8 million, while adjusted EBITDA at negative $2.4 million was also under the Street’s call at negative $0.3 million. 

Kirk said with the quarterly results, a “larger industry problem” has appeared, namely, pricing pressures which are causing companies to choose between profit margin and market share, with HEXO going for the former.

“HEXO faces a difficult balance between liquidity and profitability requirements, but with a leading cost profile [it] has become a more reliable company with B2B opportunities to grow for other LP’s. Even as HEXO improves, the industry remains difficult, and the covenants represent an equity overhang. We reiterate our Neutral and raise our Price Target to $1.60 (stock split partially offset by lower estimates),” Kirk said.

Kirk spoke of HEXO’s convertible covenants, which include a requirement to maintain US$20 million in liquidity as well as one to stay at positive EBITDA over every rolling three-month period. Kirk said a covenant breach in the latter case would make its convertible note immediately payable, with Canadian licensed producer Tilray being the holder of the note.

Kirk said although Tilray is a customer of HEXO and aligned in supporting HEXO’s brand health, with the convertible note Tilray “is in an increasingly powerful position and HEXO equity value is at risk.”

At the time of publication, Kirk’s new $1.60 target represented a projected one-year return of negative one per cent.

“We remain on the sidelines: 1) competition against key products remains, making market share gains unlikely; 2) acquisitions are showing contraction; 3) cost-cutting alone won’t generate meaningful positive EBITDA; 4) uncertainty around balance sheet obligations; and 5) access to the U.S. is unclear,” Kirk wrote.

“Visibility is low and volatility is high. The Canadian marketplace remains very difficult, and acquired assets increased that exposure,” he said.

In other news, on March 24, HEXO announced it had been named to The Globe and Mail’s 2023 Report on Business magazine’s “Women Lead Here” list, which honors gender diversity in the corporate world.

“We are honoured that The Globe and Mail has recognized our continued efforts towards gender diversity and parity,” said Mona Matta, Vice-President, People and Culture of HEXO. “Over the last few years, we have established ourselves as a leader in the cannabis industry, and this would not have been possible without the strong contributions of all the talented women at HEXO. As a company, we take a gender-centric approach to all aspects of our operations and remain steadfast in our commitment to fostering a culture that embraces people, values individuality, and optimizes the employee experience for all genders.”

“Recognizing businesses that are successfully tackling issues around executive gender parity is a crucial step in moving the dial,” added Dawn Calleja, Editor of Report on Business magazine. “While more work is needed across the board, the companies highlighted in this list are examples to others in corporate Canada looking to move toward gender parity and, ultimately, build better businesses.”

About HEXO 

HEXO is an award-winning licensed producer of premium products for the global cannabis market. HEXO delivers a thoughtfully curated portfolio of both recreational and therapeutic cannabis products that inspire customer loyalty. HEXO’s brands include HEXO, Redecan, Original Stash, Bake Sale and T 2.0, as well as medical cannabis products.

HEXO’s world-class Canadian grow sites are unmatched in size, technological advantage and yield of high-quality cannabis, driving innovation through every step of the process. HEXO operates three major grow sites in Ontario and Québec, including one of the largest facilities in North America. HEXO Corp. is a publicly traded company under the tickers (TSX: HEXO) and (NASDAQ:HEXO).