Tilray Has a Promising Future, But Valuation Now Is Too High

Stock Market

Tilray  (NASDAQ:TLRY) has been giving shareholders plenty of excitement in 2021. TLRY stock is up over 160% in 2021 so far. So should investors get excited about TLRY stock?

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Statistics do not always tell the whole truth. A recent selloff has sent the stock down almost 20% since March 15. With a beta of 2.86, TLRY stock is a highly volatile stock and not suitable for every investor.

But even if you are an investor with a high tolerance for risk, the following key information can help you decide whether or not to buy the stock.

Global Legal Cannabis Market Growth

According to Technavio “The legal cannabis market is poised to grow by USD 27.89 billion during 2020-2024, progressing at a CAGR of almost 21% during the forecast period.” I want to focus on the statement that “The market is driven by the rapid legalization of cannabis worldwide.”

What does it mean by the legal cannabis market? In the U.S., marijuana remains illegal at the federal level. This is expected to change, but it will take time. How long? Perhaps a couple of years. There is considerable progress on the full legalization of cannabis, as 15 states have legalized recreational marijuana over the last few years. On the flip side, full legalization came to Canada in late 2018.

This means that Tilray, being a Canadian company, cannot market, and sell various cannabis products in the U.S. as long as marijuana remains illegal at the federal level. This is bad news as the U.S. is a very large market for Tilray and many other companies that sell cannabis products.

There is good news however as recently Mexico passed the cannabis legislation. And the State of New York announced that it is close to legalizing recreational marijuana. Upon this news, Tilray stock price increased, and these spikes in price should be treated with utmost caution. I explain why this the case.

TLRY Stock: The Good Things

There is a pending merger with Aphria (NASDAQ:APHA) which is expected to take place in the second quarter of 2021. What are these financial and business implications? The new combined company will be among the biggest global cannabis producers worldwide. In Canada, the new company will have probably a leading market share.

In the likely event of marijuana legalization in the U.S., revenue should also increase. And in the European market, the presence of the new company will be a dominant one, as Aphria has business operations there, such as a large German cannabis wholesaler. At the same time, Tilray is not left behind as it operates a large cannabis production facility in Portugal.

Significant economies of scale and synergies are expected global expansion of business, and cost-cutting reductions.

Wall Street Seems Optimistic on Tilray

According to Zacks “Wall Street will be looking for positivity from TLRY as it approaches its next earnings report date. In that report, analysts expect TLRY to post earnings of -$0.10 per share. This would mark year-over-year growth of 79.59%. Meanwhile, the Zacks Consensus Estimate for revenue is projecting net sales of $61.86 million, up 18.74% from the year-ago period.”

Zacks is looking for earnings of -38 cents and revenue around $296 million over the full year.

So in theory there is plenty of positive news about Tilray. Should you buy the stock?

Sales Growth Is Positive but Fundamentals Don’t Inspire

In 2016 Tilray had revenue of $13 million. Ever since sales growth has been positive and accelerated from 2017 until 2019. Then in 2020, the pandemic caused an expected slowdown and yet the company managed to increase revenue in 2020 by 26% to $210 million compared to revenue of $167 million in 2019.

But the company has not been profitable ever as of 2016. Operating income and net income are both negative. Free cash flow is also negative for the past five years.

According to MorningStar the interest coverage ratio for the trailing 12 months is negative at -6.05. This is a big red flag to me. Still the current ratio and quick ratio of the company are well above 1.0 so there is plenty of liquidity.

If we look at Gurufocus the financial strength of Tilray is moderate with a Cash-To-Debt ratio of 0.56. And while the debt level has been reduced in 2020 compared to 2019, with negative free cash flows there is a big hurdle about repaying the debt.

Is It Cheap?

Looking at CSIMarket data and the Consumer Non-Cyclical sector and Legal Marijuana industry financial ratios of price to sales (Q4 TTM)  and price to book (Q4 MRQ), the findings are interesting.

The price to sales (Q4 TTM) ratios for Tilray and the sector are 14.78 and 1.63 respectively. Next, the price to book (Q4 MRQ) ratios for the company and the sector are 8.32 and 3.15 respectively.

This means that on a relative basis Tilray seems expensive compared to its sector.

But to my financial analysis a company with a price to book of 8.32 being unprofitable, and having also negative free cash flows suggests that is it not a bargain, but highly overpriced.

The financial situation for Tilray should improve once the Aphria merger finalizes. And business prospects look very promising. But with the latest financial performance, it is advised to stay away and wait to see a radical financial performance improvement. I would expect to see the new company become finally profitable. If you believe that the cannabis market is exciting, be patient. After all, if the merger is to prove its value, then profitability should occur sooner than expected. Why rush now as the valuation and fundamentals are not key factors supporting the stock? I do not find any compelling reason.

On the date of publication, Stavros Georgiadis, CFA, did not have (either directly or indirectly) any positions in the securities mentioned in this article.

Stavros Georgiadis is a CFA charter holder, an Equity Research Analyst, and an Economist. He focuses on U.S. stocks and has his own stock market blog at thestockmarketontheinternet.com/. He has written in the past various articles for other publications and can be reached on Twitter and on LinkedIn.