Cronos Group Inc. — Q3 2021 Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2021. Amounts below are in U.S. dollars; financial statement amounts are in millions unless noted. The interim statements are unaudited.
Business context
Cronos is a global cannabinoid company reporting two segments: United States, focused on hemp-derived CBD products, and Rest of World, focused on cannabis products, including Canadian adult-use and Israeli medical markets. Its brands include Spinach, PEACE NATURALS, Lord Jones, Happy Dance and PEACE+.
Financial results and liquidity
| Metric | Q3 2021 | Q3 2020 | Nine months 2021 | Nine months 2020 |
|---|---|---|---|---|
| Net revenue, after excise taxes | $20.4 | $11.4 | $48.6 | $29.7 |
| Gross profit (loss) | $(0.7) | $(1.5) | $(19.5) | $(10.9) |
| Gross margin | (4)% | (14)% | (40)% | (37)% |
| Operating loss | $(56.4) | $(41.2) | $(398.0) | $(160.9) |
| Net income (loss) | $77.7 | $68.5 | $(263.3) | $36.4 |
| Adjusted EBITDA (non-GAAP) | $(46.8) | $(30.1) | $(133.1) | $(94.1) |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $(117.7) | $(106.5) |
Q3 revenue before excise taxes grew 80% year over year; nine-month revenue grew 64%. Growth reflected Canadian adult-use sales, Israeli medical sales and U.S. hemp-derived CBD sales. ROW generated $18.3 million of Q3 revenue, up 88%; U.S. generated $2.1 million, up 28%. Despite revenue growth, cost of sales exceeded net revenue in both the quarter and nine-month period.
Q3 net income included a $132.9 million noncash gain from revaluing derivative liabilities, principally Altria-related instruments. Nine-month results included $235.1 million of goodwill and indefinite-lived intangible impairment, including $178.4 million against U.S. reporting-unit goodwill and $56.5 million against the Lord Jones brand. The reported net loss also included $12.0 million of inventory write-downs and a $13.2 million increase in expected credit-loss allowances on loans to investees. These items make reported earnings a poor proxy for recurring operating performance.
At September 30, 2021, cash and cash equivalents were $842.6 million and short-term investments were $197.2 million, totaling approximately $1.04 billion. Cash and cash equivalents declined $235.5 million from year-end 2020. Total assets were $1.54 billion and total liabilities $78.8 million; liabilities included $34.5 million of derivative liabilities and $10.3 million of lease obligations. The balance sheet reports no conventional borrowings. Management said cash and short-term investments were expected to cover operations and capital expenditures for at least the next 12 months.
Nine-month investing cash use was $110.2 million, including the $110.4 million purchase of the PharmaCann option; financing cash use was $13.2 million. The company had $87.2 million of net loans receivable, including the GrowCo facility, and recorded a $13.1 million increase in its credit-loss allowance for that facility.
Material changes versus prior periods
- Revenue increased substantially, but gross losses persisted. Q3 gross margin improved year over year, while the nine-month gross margin weakened to (40)% from (37)%, in part due to inventory write-downs, product start-up costs and pricing pressure.
- Adjusted EBITDA loss widened to $46.8 million in Q3 from $30.1 million and to $133.1 million for nine months from $94.1 million.
- Nine-month net results shifted from $36.4 million income to a $263.3 million loss, primarily reflecting increased U.S. goodwill and Lord Jones impairment charges.
- Cash and cash equivalents fell from $1.08 billion at December 31, 2020 to $842.6 million; short-term investments also declined modestly.
- The company bought a PharmaCann option for approximately $110.4 million and issued 1.47 million shares to Ginkgo for a CBGA milestone. Shares outstanding rose to 373.3 million at September 30, 2021 from 360.3 million at year-end.
Outlook, risks and unusual matters
The filing provides no quantified revenue, earnings or margin guidance. Management described a strategic realignment around brands, centralized functions, supply-chain and product reviews, and tighter operating-expense priorities, intended to support profitable and sustainable growth. A subsequent-event disclosure estimated approximately $1.2 million of one-time severance charges over a year, mostly in the first half of 2022.
- Operating risks: Management cited competitive pricing and discounting in the U.S., consumer preference changes and obsolete Canadian inventory, start-up costs, and possible COVID-19 and supply-chain disruption.
- Investments and regulation: The PharmaCann option’s exercise depends on U.S. federal legalization and regulatory approvals. A proposed PharmaCann acquisition was expected to dilute Cronos’s fully diluted ownership to about 6.7%, potentially affecting governance rights. Cannabis and hemp regulation, licensing and market access remain uncertain.
- Control weaknesses and reporting: Management concluded disclosure controls were ineffective due to material weaknesses in inventory verification, the control environment, and impairment testing. The impairment-testing weakness contributed to a restatement of 2021 interim financial statements. Remediation was in progress and not yet complete; management did not expect full remediation of inventory controls until year-end 2021.
- Legal and regulatory matters: Securities class-action litigation related to prior financial-statement restatements and regulatory reviews remained unresolved. A Canadian consumer product-content class action was dismissed as to Cronos on January 31, 2022. The company said litigation and regulatory proceedings concerning product marketing, distribution and sales may increase.
- Other volatility: Derivative valuations depend on share price and other Level 3 assumptions and can materially fluctuate. The company does not currently hedge foreign-exchange exposure; it estimated that a 10% Canadian-dollar exchange-rate change would affect net assets by about $99.1 million.
Investor facts to verify
- Whether revenue growth can translate into positive gross profit and narrower Adjusted EBITDA losses.
- The recurring cash burn, remaining liquidity runway and capital needs, including effects of planned realignment costs and investments.
- The assumptions and recoverability behind the U.S. goodwill and Lord Jones impairments, and any further impairment risk.
- GrowCo’s operating performance and credit quality, given the increased loan allowance and lower-than-expected sales forecasts.
- Progress in remediating internal-control material weaknesses, and the status and potential consequences of restatement-related regulatory reviews and litigation.
- PharmaCann option conditions, potential dilution, governance rights and the investment’s eventual value; also confirm subsequent-event changes to Cronos Australia and other joint ventures.