While it’s often narratives rather than numbers that cause stock values to move, sometimes the most parsimonious way to summarize a company’s strengths and weaknesses is to focus on one or two key quantitative metrics. Numbers never tell the whole story, but they can often give investors some pretty solid clues about what’s coming next.
One figure in particular is especially important to consider for investors holding or considering buying Tilray Brands (NASDAQ: TLRY) stock at this time. Even if you’re not normally one to appreciate the numbers behind a stock, this one is worth paying attention to, so let’s dive in.
Companies that can reliably make investments that generate returns higher than the costs associated with financing and making those investments tend to be better stocks to buy than companies that consistently make investments that lose money. This makes sense, because investors will not be incentivized to put up their capital by buying shares if they see that the company previously did not earn a good return on their capital. Lenders will also be unwilling to offer loans at favorable interest rates if they see that previous loans were difficult to repay.
That said, it is reasonable to expect that certain investments will take a long time to pay for themselves, losing money until a critical threshold is reached and the return on investment goes from the red to the black.
In Tilray’s case, the investments are exactly the kind of things you’d expect to need to operate a multinational cannabis and alcohol company. That includes everything from growing equipment and greenhouse facilities to distillation and manufacturing hardware, retail locations, vehicles and distribution facilities, as well as investments in intangible assets like brands and intellectual property (IP). Most of those things are purchased directly and then managed by employees to (ideally) produce value for shareholders when the products are sold.
Unfortunately, Tilray’s Trailing 12 Months (TTM) Return on Invested Capital (ROIC) is a negative 5.5%. Its average ROIC over the last three years is even worse, at negative 9.4%. In this case, it is correct to say that such a return has destroyed shareholder value rather than expanding it. And it is one reason why you should be careful with this action.
There is more than one explanation for why the company is having difficulty generating more than its capital costs. A key sign is its operating losses, which amounted to $108.3 million in the TTM period.
In short, Tilray is spending so much money on its selling, general and administrative (SG&A) expenses (which includes marketing) in an attempt to gain and retain market share that it is not operationally profitable, even though you’re generating more revenue than the amount you had to spend to generate that revenue directly, your cost of goods sold (COGS).
This chart clarifies the problem a little:
TLRY (TTM) Income Data by YCharts
These are just some common symptoms of a company that does not have a competitive advantage that allows it to enjoy lower costs than the competition.
And it’s no surprise why. Primarily, Tilray competes in the Canadian medical and recreational marijuana markets, as well as the North American alcoholic beverage markets. All of these markets are saturated with competitors.
Without an advantage like ownership of brands that customers are deeply loyal to and willing to pay more for, Tilray is limited to lowering prices or spending more on marketing and advertising to try to get its products in front of the public.
Don’t lose all hope on Tilray just yet.
In the coming years, your investments could pay off and make your ROIC positive. And over time, consumers could develop an affinity for its various brands, becoming loyal and allowing the company to reduce its marketing spend without as much fear of losing market share. Major catalysts, such as the legalization of marijuana in the United States, although seemingly postponed forever, could one day massively expand its addressable market and change the equation as well.
Furthermore, it is not under much financial pressure to become profitable, however favorable that would be for shareholders. As of its fiscal first quarter, it has $287.9 million in long-term debt and $280.1 million in cash, equivalents and short-term investments. Its cash outflow last quarter was just $82.2 million. So it can maintain its current pace of expansion into new markets for a while yet.
However, there isn’t much reason to hold your breath for an immediate shift toward greater efficiency, at least not yet. If you buy this stock, expect to hold it for at least a few years before seeing a solid return, and know that you’re taking on a larger-than-average risk.
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Alex Carchidi has no position in any of the securities mentioned. The Motley Fool recommends Tilray Brands. The Motley Fool has a disclosure policy.
This 1 Metric Shows Why You Should Be Careful With Tilray Brands Stock was originally published by The Motley Fool
