Tilray: Reefer Madness Fever Breaks, Lockup Expiration Cometh

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About: Tilray, Inc. (TLRY)
by: Bull & Bear Trading
Summary

If you missed the Tulip bulb mania of the 1600s, or needed a cryptocurrency bubble redux, then the recent move in Tilray's stock provided such an event for you.

Like all bubbles, this one appears to have now burst. The next question is how low will she go? Tilray shares may still be dramatically overvalued at current levels.

Trader's Idea Flow posted our Tilray short call at $238 in our forum on 9/19/18. We expect this stock to trade much lower into January 2019's lockup expiration.

This success of this Tilray short call has the potential to eclipse our $380 short call on Tesla published on 8/8/18 in our forum that delivered a $120 profit in nine trading sessions. These are extraordinary market moves.

The Tilray bubble appears to have burst after any and all good news was factored into the stock many times over. One key catalyst now ahead for this stock is the January 2019 lockup expiration. The intrinsic value for this stock may actually be below the July 2018 $17 IPO price.

What valuation should a reasonable market assign to a company like Tilray (TLRY) that has $12 million in losses on only $20 million in revenues for the TTM? To bring some perspective to Tilray's market anomaly of a stock valuation, I recently sold a property to a private individual who buys, renovates, and flips nearly 200 homes a year. That single, individual owner with a small, private company does more in sales revenue than Tilray did in the trailing twelve months. And this small, private home renovation company has reasonable margins and is profitable. Tilray is a money-losing company that may never be profitable. Tilray has a $16 billion, yes "billion" with a "B," market capitalization as of this writing. Hopefully, the anecdotal example of the small, private home-flipper gives perspective to how dramatically overvalued the current price of Tilray shares may be at the 9/20/19 close of $161 in the AH session.

Amazingly, this $161 price per share valuation is down from the 52-week high of $300 made just the previous session on 9/19/19. This may have been what the Tulip bulb mania in Holland felt like in the 1600s. More recently we have witnessed the dot-com boom to bust cycle and also the cryptocurrency boom gone bust. Market psychology is an amazing study and as we have witnessed in the past. When sentiment turns from positive to negative, then look out below.

Chart TLRY Price data by YCharts

The Tilray bubble now appears to have burst after any and all good news was factored into this stock many times over. Wha's next for Tilray? One key catalyst now ahead for this stock is the January 2019 lockup expiration as detailed in the company's S-1 filing that accompanied the July 2018 IPO. The intrinsic value for this stock may be below the July 2018 $17 IPO price. What price the market determines for Tilray into the lockup expiration remains to be seen.

Lockup expirations generally see early private equity investors and corporate insiders selling their stock into the open market for the public investor to buy. For overly hyped IPOs that trade far ahead of what most investors would consider a reasonable valuation, this type of a promotional event followed by the sale of stock by insiders has earned the pejorative term of a "pump and dump scheme." Have the future prospects for the revenues at Tilray been exaggerated or does the management of Tilray agree that their company is justified in trading at its current $16 billion valuation? While no word on Tilray's valuation has been forthcoming from CEO Brendan Kennedy, he certainly appears very optimistic about his plans to build a "$100 billion company" during his interview on CNBC with Jim Cramer.

Perhaps Mr. Kennedy may first want to focus on generating greater revenues and profits than the guy who flips houses locally around my neighborhood. Then after delivering a few years of solid revenue growth and profits to investors, CEO Kennedy can go forward to dominate the universe. Remember, this unproven company that's about to experience an onslaught of new competitors emerging into an already crowded space experienced $12 million in losses on only $20 million in revenues during the TTM. There are penny-stock companies trading for under $1 per share with stronger financials than Tilray. This company had only $12 million in cash and equivalents prior to the IPO. Was this company even justified in coming public is a question that investors may want to consider.

The coming lockup expiration is the first chance for insiders to begin cashing out and selling their stock to the public markets. This will increase the current float of this stock dramatically. Possibly, millions more shares being sold onto the market also may provide short sellers with more shares to borrow. In effect, any shares that are sold upon lockup expiration could actually be sold twice - sold once by insiders selling their stock onto the public market, then sold a second time by short sellers who borrow these newly available shares and short sell them again. Because the market foresees these possible events ahead of time, a stock's price may decline ahead of its lockup expiration. The lockup expiration typically occurs 180 days after the IPO date. The July 2018 IPO for Tilray has the lockup expiration date for this stock scheduled to occur on January 15th, 2019.

October 17th, when Canada will legalize marijuana, already is factored into the price of Tilray shares many, many times over. Fully baked may be an appropriate expression to describe how any and all possible good news for the near term of Tilray's existence already is priced into the stock at current levels. So with all the good news already priced into this stock, the company's January lockup expiration may be the next major catalyst on the calendar and it may well be a bearish factor for the stock price. Please begin reading on page 123 of the S-1 (see link provided above) to learn more about the upcoming sale of insider stock. It's safe to estimate that many millions of shares will be sold into the market by insiders of Tilray as is typically the case in many IPO lockup expirations. This will increase the float of this stock significantly and thereby provide short sellers with the shares that they will seek to establish a bearish position on Tilray, if they feel the price of the stock is overvalued.

Summary

Since the July 2018 IPO for Tilray the company has traded on speculation of possible future events that may be positive for the cannabis industry in general. Because Tilray was one of the first cannabis companies to list on the Nasdaq it became a proxy for the positive events and potential future growth in this nascent industry. But very little regard has been given to the actual fundamentals of Tilray as an individual company. This company is basically a penny stuck gone wild with tiny revenues of only $20 million and huge relative losses of $12 million when the $5 million SBC is included. Will tremendous growth occur for the production of revenues at Tilray? Maybe. This is a new industry with numerous competitors already. And the number of new entrants into this space are likely to increase significantly in the near term. There's no competitive moat that would prohibit other companies from entering this increasingly crowded space.

As new sources of cannabis supply are likely to steadily increase along with the global trend toward legalization, we may see a decrease in the commodity price for cannabis, not an increase as so many are now predicting. Yes, new markets and products are being developed, but the grow cycle for the base commodity products of marijuana and hemp is very rapid. As most of us are aware, this commodity grows just as fast as, well, as fast as a weed. And with little to no barrier to entry the supply of product from corporate competitors as well as newly minted potrepreneurs will likely bring a rapidly growing supply of the commodity along with legalization. Supply may well outstrip demand for cannabis and this could cause future revenue estimates for the entire industry to be significantly slashed as prices spiral lower.

Any and all of the good news for this new cannabis industry is fully baked into the stock price of Tilray a dozen times over. This stock with $12 million in losses on only $20 million in revenues cannot reasonably justify a market cap of $1 billion. Yet, the current market cap is $16 billion. This speculative bubble appears to have burst and further declines in the price of Tilray's stock appear reasonable.

The next major catalyst for this stock is the lockup expiration in less than 120 days on January 15, 2019. Clearly, little to none of this typically bearish event is currently factored into this low float stock. If you were a corporate insider at Tilray you would likely already have a structured plan in place to conduct systematic and steady sales of your stock onto the public markets. As these insider sales significantly increase the float of available shares it will make it possible for a larger number of shares to be sold short. This is a bearish cycle ahead for Tilray into its upcoming lockup expiration.

Conclusion

There already are numerous competitors that are well ahead of Tilray in this nascent industry. New entrants into this industry are likely. Will tiny Tilray survive the fight for market share and achieve a differentiation of brand are among many legitimate questions for investors to be asking.

Trader's Idea Flow was stopped out on our initial short sale of Tilray stock. We then posted our second attempt at a short sale of Tiray in our forum on Wednesday 9/19/18 at $238. As of the AH session's close on Thursday 9/20/18 at $161 per share we already have a $77 profit on this trade in just two days.

Trader's Idea Flow believes that shares of Tilray are headed for a price that will be sub-$40 per share into lockup expiration.

In a future that may include increasing competition combined with increasing supply / decreasing prices for cannabis products some of this industry's early front-runners may not survive the struggle for market share. Tilray may not survive unless it can deliver significantly higher revenues in the near term, and while the market is currently assuming this event will take place, it remains to be seen. Also, if growth of revenues occurs for Tilray, then the cost of creating these revenues must be managed. In a new industry there are no experienced players. Trial and error can be a difficult way for any corporate management team to learn how to be successful.

Special attention should be paid to whether or not existing corporate entities with significant resources choose to enter this space to compete with much smaller companies like Tilray. It may be economically efficient to develop a presence in this industry organically for existing corporations, rather than paying exorbitant valuations for any M&A deals with the available cannabis corporations now trading publicly.

Not only might large corporations enter the cannabis space by building their own infrastructure, but new entrants of all sizes may begin growing their own cannabis. There simply is no competitive moat in this industry to keep others out. The supply of cannabis as a commodity could very quickly outstrip the demand for this product, which would be devastating to revenue estimates for stocks in this industry along with the corresponding share prices for cannabis stocks. This is a highly speculative industry that appears to have already factored in all potential good news without any reasonable balance for the risks associated with negative events.

Trader's Idea Flow is short shares of Tilray ahead of its January 2019 lockup expiration.

Disclosure: I am/we are short TLRY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.