Even with all of the excitement leading up to the launch of Canada’s recreational marijuana market, Cronos Group (NASDAQ:CRON) still had its day-to-day business to run. The cannabis producer enjoyed a strong second quarter, with revenue skyrocketing and earnings soaring. But when Cronos reported its third-quarter results on Tuesday, there were a few chinks in the armor.

The company continued to experience solid sales momentum in Q3, with revenue jumping 186% year over year and nearly 11% higher than the second quarter. However, Cronos Group posted a net loss of 7.27 million Canadian dollars (about $5.5 million), compared to positive earnings in the prior-year period and in the previous quarter.

These numbers weren’t the important takeaways from Cronos Group’s Q3 earnings report, though. Here are the five things in the company’s quarterly update that really matter. 

IMAGE SOURCE: GETTY IMAGES.

1. The loss should be temporary

If Cronos Group’s big loss in the third quarter was a sign of things to come, investors would have a good reason to be concerned. But the loss should only be temporary. 

Total operating expenses increased by a whopping 242% year over year. And the spending increases occurred in every area of the business. However, this higher spending was to be expected as Cronos ramped up for the opening of the recreational marijuana market in Canada. You can think of the spending increases — and the associated net loss — as an investment that should generate a solid return in the not-too-distant future.

2. Higher capacity is coming

One major reason for the increased spending was Cronos Group’s production capacity expansion. Perhaps the best news for the company in the third quarter was the completion of Building 4 at its Peace Naturals facility in Stayner, Ontario. This building adds another 286,000 square feet of indoor growing space. The first harvest is expected by the end of 2018. 

Once Building 4 is operating at its peak, Cronos Group should be able to produce around 40,000 kilograms (just over 88,000 pounds) of cannabis per year. The company’s other expansion initiatives are projected to boost annual production capacity to over 117,000 kilograms within the next couple of years. 

3. Cronos should be able to sell all it produces

Here’s the really important thing to know about Cronos Group’s added capacity: The company should be able to sell its entire production for a while. Cronos secured supply agreements for the recreational marijuana market with Ontario, British Columbia, Nova Scotia, and Prince Edward Island. These provinces have over half of Canada’s total population.

Cronos Group also entered into a supply agreement earlier this year with Cura Cannabis Solutions. This deal requires Cura to purchase a minimum of 20,000 kilograms of cannabis each year over a five-year period.

4. Partnerships could pay off in a big way

It’s quite possible that the partnerships Cronos Group formed during the third quarter will mean a lot more to the company over the long run than its Q3 financial results. One of those partnerships focused on adding production capacity — a joint venture with a group of investors led by greenhouse operator Bert Mucci. However, the other two deals could also be key for Cronos Group’s future success.

In September, Cronos announced a partnership with Ginkgo Bioworks to produce cultured high-purity cannabinoids from engineered strains of yeast. If successful, this effort would enable Cronos to produce cannabinoids at a dramatically lower price than current methods allow. In August, Cronos teamed up with Colombian agricultural company Agroidea SAS in a deal that opens more doors in the Latin American cannabis market. 

5. More dilution is likely on the way

So far, everything that really matters with Cronos Group’s Q3 update has been positive. There is one glaring potential negative development that could be on the way, though. Cronos Group reported cash of CA$43.8 million. This total, combined with the company’s CA$28.7 million construction loan, should fund operations at least through the next 12 months. But it seems likely that Cronos will need to raise more cash at least by sometime in 2020.

Based on the company’s history, this additional capital will probably come from issuing new shares. Although Cronos Group shouldn’t have a problem generating all the money it needs, doing so comes at a price for shareholders: The value of all existing shares will be diluted.

The big picture

The common thread throughout all five of these key items from Cronos Group’s Q3 update is that there’s a bigger picture for the company than just one quarter. What really matters for Cronos — and investors — is how the company grows over the long term.

Cronos Group’s long-term prospects hinge on its capacity, its distribution channels (both in Canada and in international markets), and its innovation. The company’s advances on these fronts during the third quarter will matter a lot more a few years from now than its Q3 revenue increase and net loss.

The cannabis stock revolution has continued to inspire investors to look closely at the marijuana space, and despite recent volatility, many of those who follow the industry continue to seek smart investments with exposure to cannabis. Cronos Group (NASDAQ:CRON) was one of the first marijuana stocks to trade on a major U.S. exchange, but it also has a chip on its shoulder because of the larger scope of some of its biggest rivals in the Canadian cannabis space.

Cronos expects to release its third-quarter financial report on Nov. 13, and investors are already expecting that the marijuana company will dramatically grow from year-ago levels. Yet the bigger question is whether it will grow fast enough to catch up with some of its major competition. You can expect answers on Tuesday, but here’s an early look at what you should be ready to see from Cronos in its quarterly report.

PEACE NATURALS FACILITY. IMAGE SOURCE: CRONOS GROUP.

Stats on Cronos Group’s third-quarter earnings

SOURCE: S&P GLOBAL MARKET INTELLIGENCE. EPS = EARNINGS PER SHARE.

Ramping up

Cronos has done a good job over the past year of ramping up its revenue. The fastest growth came in the first quarter of 2018, when sales soared more than 80% compared to the fourth quarter of 2017. Yet by contrast, expectations for the third quarter are relatively modest, with anticipated sales representing a troublingly slow 5% growth rate.

Cronos Group’s second-quarter financial report back in August drummed up considerable optimism about the cannabis company’s future. Not only has Cronos built up sales but it’s also focused on the best niches of the cannabis market, including sales of cannabis oils that tend to get much higher profit-margin levels than dried cannabis. The company also took steps to prepare for its future, including raising cash, announcing plans to build a new production facility in the Canadian province of Ontario, and forging relationships overseas that could greatly expand Cronos’ international business.

CEO Mike Gorenstein laid out Cronos Group’s strategy in very simple terms. As Gorenstein put it, Cronos is focused on four strategic priorities: building capacity in a capital-efficient manner, creating a smart distribution infrastructure, establishing valuable intellectual property to differentiate itself from commodity players in the cannabis industry, and promoting brands that will resonate with customers and produce loyalty in the long run. The CEO is convinced that, regardless of how many analysts are paying attention to supply agreements in determining market share, the real test will be for Cronos to offer high-quality products that allow the company to interact favorably with its customer base.

What to really look at

The biggest challenge for investors looking at Cronos Group’s third-quarter results is that they won’t include the most important event for the company: the legalization of recreational cannabis sales in the Canadian market. Those numbers won’t show up until Cronos releases fourth-quarter results early next year and they’re likely to be huge. Currently, expectations are for revenue to approach the CA$10 million mark in the fourth quarter, almost tripling since mid-2018.

Therefore, the most important things for shareholders to concentrate on when Cronos releases its latest results are the comments that management makes about the early going in the fourth quarter. If the rollout of cannabis in Canada has gone well, then it should lead to optimistic comments in the conference call from Cronos executives. Anything less than perfect candor could indicate a more sluggish start to Canadian cannabis sales than investors would like.

Also, the September announcement that Cronos will work with Ginkgo Bioworks to produce cultured cannabinoids has huge implications for the company’s future. Extracting cannabis oils is costly and time-consuming, but Cronos hopes that working with Ginkgo could lead to development of a more cost-effective production method that will give it a competitive advantage. The partnership came at a cost, as Ginkgo will be eligible to receive Cronos stock upon meeting certain milestones.

Finally, investors have hoped that Cronos would be able to attract a major consumer-products company as a partner in the same way that marijuana rival Canopy Growth did. So far, no suitors have come up, and that has many investors concerned that Cronos stock might be trading at unsustainable levels based solely on its current business fundamentals.

Expect stock turbulence to continue

Cronos shares have been all over the map, more than doubling from mid-August to mid-September, only to give up most of those gains by the end of October before rebounding. It’s hard to tie stock prices to business performance in a rapidly growing industry, but smart investors will want to look closely at everything going on in Cronos Group’s financials before committing their hard-earned money to the cannabis company. Only with great execution will Cronos be able to catch up with some of its larger rivals in the marijuana industry.

Investors in cannabis stocks have learned the hard way that volatility can cut both ways. Even as investor interest in the marijuana industry soared during the late summer and early fall, share prices of cannabis companies hit the skids in recent weeks as the reality of what will inevitably be a long ramp up in production and sales activity hit home for shareholders.

Yet those who seek out the highest-growth opportunities in the investing universe are always looking forward to the next big catalyst for further growth. For the marijuana industry, that’s set to come in the form of quarterly reports for the rising number of publicly traded stocks that have connections to cannabis. Many of the biggest players in the space will issue their reports over the next week, and that should both refresh investors’ memories about the huge growth potential of cannabis and confirm whether marijuana companies are living up to their full potential.

IMAGE SOURCE: GETTY IMAGES.

What to expect from cannabis companies in the next week

Here’s a brief look at some of the major companies in the marijuana industry that are expected to report their latest earnings results in the near future:

• Canopy Growth (NYSE:CGC) reported a 63% year-over-year rise in revenue last quarter, bringing in $25.9 million Canadian dollars over the three-month period. Investors are hoping to see even more dramatic gains when it reports on Nov. 14, with current third-quarter sales projections for CA$75.3 million, which stem, in part, from the recent acquisitions Canopy has made.
• Tilray (NASDAQ:TLRY) saw even bigger growth rates when it issued its first quarterly results as a publicly traded company three months ago, seeing revenue nearly double to $9.74 million from year-earlier levels. Most investors are looking for only modest further gains, to $10.25 million in sales for the just-ended third quarter, but that would still likely be a big increase from what Tilray sold in the third quarter of 2017. Tilray’s expected to release its results on Nov. 13.
• Aurora Cannabis (NYSE:ACB) more than tripled its revenue in the third quarter of 2018, to CA$19.1 million, and most investors see those favorable trends continuing. Thanks to its acquisition of MedReLeaf, Aurora could see revenue of CA$39.5 million in its Nov. 14 report, and that figure would be almost five times higher than its year-ago sales.
• Cronos Group (NASDAQ:CRON) has been playing catch-up on a revenue basis, and it’ll have to keep working hard to do so for the foreseeable future. Sales of CA$3.39 million in the second quarter multiplied more than fivefold from year-earlier results, but projections for CA$3.56 million on the top line for the third quarter won’t give investors much in the way of sequential growth to hang their hats on when Cronos reports on Nov. 13.

It’s also important to keep in mind that investors are expecting none of these marijuana companies to be profitable during the period. That’s understandable, in part because the companies are just now ramping up their business models, and in part because the expenses of establishing themselves as key players in the cannabis industry have been extensive.

Much ado about nothing (yet)

Marijuana investors should look closely at these companies’ quarterly reports when they come out, but they shouldn’t focus on typical headline numbers like sales and net income. The reason is simple: The big impact that investors hope will send sales skyrocketing — the legalization of recreational cannabis in Canada — didn’t happen until mid-October. That means shareholders will have to wait until February before getting firm reads on how things are going in the Great White North.

However, what investors can expect now is commentary from company executives about early results, with anecdotal and some limited financial information about how the beginning of the fourth quarter is going. Already, there have been reports of limited supplies of cannabis in Canada, suggesting that the rollout hasn’t gone as smoothly as some had hoped. It could take a while for the new distribution process to work out the kinks.

The good news for investors, though, is that the experience in Canada should serve to provide valuable knowledge if cannabis companies get a chance for an even bigger rollout elsewhere in the future. Most marijuana investors are still focusing squarely on the huge potential of the U.S. market in the event of a federal legalization effort, so looking at how successful cannabis companies are in navigating difficulties in Canada could foreshadow winners and losers in a future U.S. push.

Keep your eyes open

After a tough October, marijuana investors are hoping for news that will restore confidence in the industry. Quarterly financials could provide that catalyst, and those companies that deliver good results could see nice rebounds in the week to come.

It’s easy to forget during turbulent markets that over the long haul, stocks have helped long-term investors create life-changing wealth. Even just using index funds, disciplined investors who’ve put money to work regularly in the stock market have seen their savings climb dramatically. Those who’ve identified promising niches of the market have done far better.

Marijuana stocks have gotten a lot of attention lately because of the trend toward greater acceptance and legalization of cannabis products. That reached a peak when Canada legalized recreational marijuana earlier this month, but even after a healthy pullback in cannabis stocks, longtime investors in the space have seen impressive gains. If you’d invested $10,000 in equal parts in marijuana stocks Canopy Growth (NYSE:CGC), Cronos Group (NASDAQ:CRON), and Aurora Cannabis (NYSE:ACB) on various Canadian stock exchanges three years ago, you’d be sitting on a portfolio worth more than $200,000 today. The big question now is whether these three key cannabis leaders can keep up the positive momentum.

^{WEED DATA BY YCHARTS.}

The best-known pot stock

Canopy Growth has the strongest reputation among marijuana investors, largely because it’s gotten the most attention from the mainstream corporate world outside of the cannabis industry. Canopy has attracted two separate investments from beer giant Constellation Brands, including a nearly $4 billion investment just a few months ago. The deal has helped raise awareness of the entire sector, and other marijuana companies have sought partnerships of their own in order to give them the cachet that Canopy Growth has.

Canopy has become a leader in the industry because of its immense production capacity, which puts it squarely at the top of the business currently. Yet Canopy isn’t content to rest on its laurels, and it’s working hard to expand production further. At the same time, the cannabis company’s early success in creating its Tweed brand of cannabis products demonstrates its business savvy. Even with its stock having jumped almost 1,800% in the past three years, Canopy Growth has more room to run higher.

^{IMAGE SOURCE: CANOPY GROWTH.}

Leader of the pack

Cronos Group has the distinction of being the best-performing marijuana stock of all time right now. Despite having seen a pullback over the past few weeks, Cronos has posted gains of more than 2,700% over the past few years. Having formerly been known as PharmaCan Capital, Cronos has been a big player in the medical marijuana segment of the cannabis industry.

Like Canopy, Cronos has worked hard to boost its production capacity. Another avenue for growth involves international distribution, with partnerships giving it access to markets in Australia, Israel, Germany, Poland, and various points in Latin America. With a new collaboration with Ginkgo Bioworks to develop cannabis derivatives of high purity, Cronos hopes it can tap into growing markets for both medicinal and recreational use. If it’s successful, that could lead to even bigger gains for Cronos.

Aurora hits the NYSE

Finally, Aurora Cannabis is best known for its recent listing on the New York Stock Exchange. Yet even before that, the stock managed to produce gains of 1,400% on exchanges in Canada.

Aurora has focused its efforts on building up production capacity as quickly as possible, trying to keep up with and surpass Canopy Growth with projects including its Aurora Sun facility near the Edmonton International Airport and similar growth facilities in eastern Alberta and in Denmark. With investments in other players in the cannabis industry, Aurora is also trying to stay diversified and build key collaborations that it can use to grow more efficiently. That’ll be essential as it strives to maintain its competitive position in the rapidly evolving marijuana market.

Further gains to come?

Marijuana stocks have produced amazing gains, and now that they’re squarely on the radar of mainstream investors, it’ll be hard to see 20-fold increases from current levels. Nevertheless, for those who see the potential profits from cannabis, Aurora Cannabis, Cronos Group, and Canopy Growth all deserve future attention to see how they can build on their early success.