Revenue is up for Emerald Health, but costs and a major dispute are holding it back…

Emerald Health Therapeutics Inc. (TSXV: EMH) closed out this earnings season, announcing its results on Friday and talking to analysts and investors on Monday morning.

The good news is that Emerald’s revenue increase is continuing. Its sequential-quarter revenues were up 101%. Few American companies and almost no Canadian ones showed that kind of revenue growth and it augurs well for the company as it completes the buildout of two big facilities.

Those facilities are another piece of good news from the company. It is nearing completion on the construction of growing operations in British Columbia and Quebec.

Emerald has been watching the Canadian market develop and it will be growing products which Canadian consumers have been demanding. Specifically, the British Columbia operation will be growing craft-quality cannabis and the Quebec facility will be growing organic product. Both will have THC levels higher than those grown by the big Canadian growers in the early days of Canadian legalization.

Costs of Expansion Hinder Growth

Emerald does have to get its costs under control. Much of the cannabis it sold came from the Pure Sunfarms joint venture and it didn’t see much of a gross margin on those sales.

Overall, gross margin was negative because of the expansion plans – there are costs flowing through the earnings statement for facilities that are not yet fully producing products. Emerald also had inventory write-downs, including a $2 million write-down on some low-quality hemp it was unable to process on a timely basis.

The company did say that the gross margin would improve as the new Quebec and British Columbia facilities start to harvest their first plants and ship them to dispensaries.

It even committed to achieving operating cash flow break-even during 2020, which would be a big achievement.

Currently, Emerald’s joint venture with Village Farms International Inc. (TSX: VFF), called Pure Sunfarms, is the gem of the company. That venture saw sales of $24 million with an EBITDA margin of nearly 60%. The Pure Sunfarms branded products are well-received in Canada and sell at a premium. It was the number one flower product in Ontario in October, with a 16% market share. If Pure Sunfarms can maintain this share as it expands it will be set to be among the most profitable facilities in Canada.

The Trouble with Emerald and Village Farms’ Joint Venture

But Emerald is fighting with its joint venture partner and perhaps with the joint venture itself. There are two big disputes which have to be resolved and they present a large risk to Emerald.

The first is a dispute over $7.2 million in invoices Pure Sunfarms sent to Emerald. Basically, Emerald bought less cannabis from Pure Sunfarms than the joint venture thinks Emerald was required to buy. The venture sold that cannabis on the wholesale market and billed Emerald for the difference between the price it would have charged Emerald and the price it received. Emerald disputed the amount and that has to be worked out.

The other fight is over a $5.94 equity payment that Pure Sunfarms and Village Farms believe is due to the joint venture to pay for the expansion of its facilities. Emerald believes that all or some of that amount can be offset by the $13 million that the joint venture owes to Emerald.

In the context of the value of Pure Sunfarms, these are small amounts. But the existence of the disputes and the highly aggressive tone taken by Village Farms in its press releases on the matter indicate that there are deeper troubles going on.

At the end of the day, Emerald will have a significant interest in a highly profitable facility. But the interest could drop under the 50% that Emerald currently owns, and that would be seen as a big negative by the market.

This dispute appears to be related to Emerald’s weak liquidity position, which is the reason I moved Emerald from BUY to HOLD some time ago. I still think that the Pure Sunfarms joint venture alone is worth more than Emerald’s current stock price, even if Emerald’s position gets diluted somewhat.

But poor liquidity will continue to cause problems for Emerald until it is able to raise some meaningful cash to get it through mid-next year when revenues from the new facilities should start to generate meaningful cash.

For that reason, I’m maintaining Emerald as a HOLD.


Greg Miller
Executive Director, National Institute for Cannabis Investors