Tilray Simply Needs To Do Better

• From a broad perspective, the story surrounding TLRY stock is delayed, not broken
• But subpar execution has been as big a problem as slow regulators
• Long term, the stock can still work out, but at the current valuation it’s difficult to be terribly optimistic

There’s an argument to be made that Tilray (NASDAQ:TLRY) still is on track, if moving slower than hoped. Over the past few years, Tilray’s strategy has been to build its footprint out across geographies and end markets in advance of cannabis legalization in major markets.

Certainly, that strategy has done little for Tilray stock, which has dropped 76% over the past year and is threatening March 2020 lows. But bulls might argue that the weakness in TLRY is being driven by a sector sell-off and/or impatient investors, not anything Tilray itself is doing wrong.

There perhaps is some truth to that argument — but not enough. Tilray has not performed well of late, a problem that has amplified external pressure on the stock.

The good news for TLRY is that the company has time to improve. The bad news is that, even down by three-quarters, some degree of improvement is priced in.

The Long-Term Case For Tilray Stock

The broad argument for Tilray stock is that no company is better positioned for global cannabis legalization.

In Canada, immediately after the merger of Tilray and Aphria, the combined company had leading market share. Tilray held about 20% of the market, nicely ahead of second-place Canopy Growth (NASDAQ:CGC).

In the U.S., Aphria’s acquisition of Sweetwater Brewing provided the opportunity to manufacture cannabis-infused beverages. Importantly, it also established access to distribution, allowing Tilray to quickly ramp sales the instant federal cannabis legalization arrived. The Manitoba Harvest brand has moved the company into hemp-based foods as well.

And in Europe, via CC Pharma, Tilray owns distribution in the medical cannabis channel. It has large manufacturing facilities in both Germany and Portugal that serve medical customers. Both facilities have the capacity to serve adult-use customers on the continent when legalization of recreational marijuana arrives.

In a world where cannabis is legalized, these constituent parts all fit nicely together. Cannabis produced by Tilray can be distributed either through owned channels or through relationships built by Sweetwater and Manitoba Harvest, in particular. Those businesses also provide the opportunity to create myriad cannabis-based products, whether edibles or beverages.

In short, once cannabis legalization truly arrives, Tilray will have its hands in almost every aspect of the global business.

What’s Gone Wrong?

One core problem for Tilray — and its Canadian rivals — is that global cannabis legalization hasn’t arrived.

After elections in 2020, observers — including Tilray chief executive officer Irwin Simon — predicted the U.S. was on a path to removing the federal prohibition on the product. But little progress has been made. In Europe, Simon has pinned his hopes on Germany, where a draft bill is expected later this year.

The positive interpretation of TLRY here would be that the company has set itself up for a world that doesn’t yet exist — through no part of its own. Legalization has moved slower than most believed it would. And because of that, Tilray owns production and distribution assets that are being under-utilized.

Eventually, that will change. Tilray will be able to take advantage of its positioning. In the meantime, the company remains reasonably profitable. In fiscal 2023, the company expects $70 million to $80 million in adjusted EBITDA (earnings before interest, taxes, depreciation and amortization). More synergies from the partnership with Hexo (NASDAQ:HEXO)) should arrive in FY24.

All told, the bull case is that Tilray’s opportunity hasn’t disappeared. It’s simply been delayed. As long as the company keeps muddling through without markets like Germany and the U.S., it should prosper once those markets finally open up.

Execution Needs To Improve

It’s a tempting bull case. After the long plunge, TLRY stock isn’t that expensive relative to profits or revenue. Shares trade at about 3x this year’s sales, and under 30x EBITDA. Neither multiple is “cheap,” necessarily, but with long-term growth on the horizon (again, at some point) both seem acceptable.

The catch is that Tilray’s execution simply has to improve. The focus on potential markets can miss the fact that Tilray is underperforming in existing markets.

In Canada, Tilray continues to hemorrhage market share. In Q4, according to the company itself, Tilray had barely 8% share, less than half the figure seen just two years ago. Performance in Israel has disappointed due to an oversupplied market. Even Sweetwater appears to have posted soft results in recent quarters.

It’s possible that the problems facing Tilray aren’t company-specific. But that’s not good news, either. The long-term bear case for cannabis companies has been that the product is not differentiated. That, in turn, leads to “race to the bottom” pricing, low profit margins and volatile market share. That combination is precisely what Tilray faces in its home market of Canada at the moment.

It’s the environment in Canada that raises perhaps the most concern about Tilray stock. If Tilray can’t win at home, at a time when publicly traded producers are struggling with debt and after the industry’s largest-ever merger, is it necessarily going to win in the U.S.? Or, will the established MSOs (multi-state operators) like Trulieve (OTC:TCNNF)) and Curaleaf Holdings (OTC:CURLF) dominate on their own turf?

Right now, investors are picking the MSOs, whose market caps exceed those of their larger rivals. TLRY stock likely can’t find consistent upside until that changes.

Disclaimer: As of this writing, Vince Martin has no positions in any securities mentioned.