Bottom Line

Aphria (NYSE: APHA, TSE: APH) stunned everyone, including us, with a truly knockout quarter.

In an industry struggling to grow, Aphria delivered all the growth an investor could want this quarter.

The most important takeaway for us is that Aphria was able to double sales of cannabis when industry sales as a whole are up only 30%-40% over last quarter.

There is no doubt Aphria gobbled up market share.

Aphria is back to setting itself apart through operations, with growing costs down 20% this quarter alone and positive EBITDA coming from the cannabis business.

Among the big three growers, Aphria is the only one specifically guiding to profitability next year and it can be picked up for a crazy 75% discount even including the 35% pop after earnings tonight. Aphria could be a $20 stock and still trade at a 25% discount

We continue to believe a hedged trade of long Aphria and short Aurora is one of the most attractive risk/return propositions in the cannabis market.

Looking at the Canadian cannabis industry as a whole, we think Aphria may be kicking off a strong sector rebound going into the winter. Nationwide shipments are up 40% over last quarter meaning second-quarter revenue growth could be strong across the sector.

On top of revenue growth, we expect investor excitement around edibles will be picking up going into October-December, bringing stock prices with it.

With the sector down 32% since May and underperforming the broader market by 50%, we think the time is fast approaching for cannabis to have its day in the sun once again.

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Operational Overview – Stellar Sales and Output

Aphria was able to sell 110% more cannabis than last quarter and generated 85% more revenue as well.

This is an impressive result compared to Organigram, the only other company to report through May, who saw shipments decline 7% and revenue grow only 4%.

Medical revenue per gram declined but volumes more than made up for the fall.

Recreational results really crushed it with a 12% increase in pricing and a 140% increase in grams sold.

Revenue Per Gram of Cannabis Produced

Source: SEDAR, Grizzle Estimates

Aphria’s production costs only increased 8% this quarter while sales increased 110% driving production costs per gram down an impressive 50%.

The small increase in production costs was at least partially due to lower energy costs in the spring compared to very cold Canadian winters.

Overall, their per gram production cost of $2.00 puts them as the cost leader among all Canadian LPs. Aphria had the lowest growing costs in the industry before they ramped up the Aphria 1 greenhouse and now that the kinks have been worked out we expect they will continue to keep the low costs crown.

Last quarter management warned the market that a new growing technique and preparations for ramping up Aphria One would lead to a $0.50 per gram increase in growing costs.

In this quarter the company got rid of these costs and more.

Production Costs Per Gram of Cannabis Produced

Source: SEDAR, Grizzle Estimates

As would be expected with much lower production costs and flat revenue, Aphria’s gross margin in the quarter showed a massive improvement.

Aphria now generates $4/gram of gross margin and is the most profitable grower in the sector from a gross margin point of view.

The ramp-up of Aphria Diamond may lead to lower gross margins through the rest of the year, but we expect Aphria will return to class-leading margins by early next year.

Gross Margin Per Gram of Cannabis Produced

Source: SEDAR, Grizzle Estimates

In the end, Aphria generated an EBITDA loss of only -$1.5 million, down from last quarter’s loss of -$24.1 million.

This was good for an EBITDA per gram of -$0.30, leaving them ahead of everyone but Organigram.

Aphria ramped up spending a quarter later than peers so likely reached peak EBITDA burn last quarter.

EBITDA Per Gram of Cannabis Produced

Source: SEDAR, Grizzle Estimates

Aphria Is a Steal at the Current Valuation

Aphria continues to look like a screaming buy at a 75% discount to Canopy, Aurora, Cronos, and Tilray and a 50% discount to the group average.

After the earnings Aphria just had, there is no longer much of an explanation why the company should be trading at such a huge discount to peers.

The company has half a billion dollars of cash to weather any storm, and has the growing capacity to match the largest LPs in the sector.

Now that the company provided us with EBITDA estimates for 2020 we can better handicap profits for the rest of the sector. For example, Aphria would generate $390 million of EBITDA in 2020 if they were able to sell 255,000 grams for an average of $5.50/gram at a 30% margin.

Given that the company is guiding to $90 million of EBITDA in 2020, we now have a feel for where other growers may come in compared to their potential.

If we apply the same haircut to all of the other companies, Aphria continues to look like a screaming buy at a 75% discount to Canopy, Aurora, Cronos, and Tilray and a 50% discount to the group average.

Even if we apply no haircut at all, Aphria trades at a 25% discount to Canopy, Aurora, Tilray, and Cronos.

Now that operational hiccups are out of the way, Aphria is the most compelling catchup trade in cannabis.

2020 Forecast EV/EBITDA

Source: Grizzle Estimates, SEDAR