A massive quarterly sales increase at a small cannabis extraction firm with ties to Aurora Cannabis (ACB.TO)(ACB) is raising allegations of collusion and inflated sales. Accounting experts also point to a lack of transparency for investors around the relationship between two Edmonton-based pot companies.
Sales surged 805 per cent quarter-over-quarter to $11.2 million at Radient Technologies (RTI.V) in its recently reported fiscal third quarter of 2020. The company stated in financial filings that all of its revenue in the three months ended Dec. 31, 2019 came from one customer. Yahoo Finance Canada has confirmed through the company that the customer was Aurora.
Aurora and Radient share a number of ties. The firms signed a five-year agreement in 2017 under which Radient processes Aurora’s cannabis into extracts. Aurora owns approximately 12 per cent stake in Radient. Allan Cleiren, Aurora’s chief operations officer, sits on Radient’s board of directors. Terry Booth, Aurora’s founder and former chief executive officer, previously held a board position.
Extractors like Radient specialize in turning cannabis flower into concentrated oils for use in so-called “Cannabis 2.0” products like vape pens, edibles, topicals and beverages.
Aurora references its strategic investment in Radient in its financial statements, without disclosing details of transactions between the companies. An Aurora spokesperson declined to comment on the business relationship when reached last week. The company issued a statement by email noting its financial filings are audited by KPMG, and its disclosure practices are compliant with International Financial Reporting Standards (IFRS). KPMG declined to comment on client matters.
Radient’s filings show 100 per cent of sales in its most recent quarter came from one customer, but do not name Aurora.
While the companies may not be explicitly required to spell out the full extent of their relationship, Kathryn Bewley, an accounting professor at Ryerson University’s Ted Rogers School of Management, says investors deserve more transparency. She said Aurora clearly exerts significant influence over Radient, especially while it remains the company’s chief source of sales.
“In a different scenario, Radient could be a department or division of Aurora, instead of being a separate incorporated entity,” she said. “They’re obviously a hand-in-glove kind of relationship.”
Eckhard Schumann, a University of Toronto professor with expertise in IFRS, points to IAS 28. The rule states that if an entity holds 20 per cent or more of the voting power over an investee, it will be presumed to have significant influence. However, it also notes significant influence can be demonstrated by representation on the board of directors or material transactions between the entity and the investee. IAS 28 does not have its own disclosure requirements.
“The fact that one is on the board of the other, and a significant amount of the revenue from one company comes from the other company, both in my mind make it a significant influence situation,” Schumann said.
Yahoo Finance Canada reached out to the Alberta Securities Commission for clarification of the rules. Senior communications advisor Theresa Schroder declined to comment on the Aurora/Radient relationship specifically.
“There are a number of factors that determine whether a related party exists where an equity interest is below 20 per cent,” she wrote in an email. “Factors to be considered could be board representation and material transactions between the entities, materiality from the issuer’s perspective, and other factors listed in Section 6 of IAS 28.”
Last spring, Radient entered into agreements with licenced producers including Aurora to purchase $19.5 million worth of dried cannabis biomass, building its inventory from near zero at the beginning of the quarter. Meanwhile, Aurora booked $20.1 million in wholesale bulk cannabis net revenue in its quarter ended June 30, 2019, a more than $18 million, or 869 per cent, increase over the previous quarter.
Aurora confirmed in October that Radient purchased an undisclosed amount of cannabis biomass from the company for its initial inventory. In a press release that month, it said Radient is “extracting/processing a large inventory of cannabis biomass for Aurora.”
Aurora’s limited responses to questions about the transaction have not ruled out the company buying the material back once it’s processed into extract, and then selling it a second time.
Radient's sales in the period ending June 30, 2019 totalled just $61,027. Asked if the company had a buyer in mind when it purchased nearly $20 million worth of cannabis in that quarter, CEO Denis Taschuk said, “The majority of that was for clients that we had lined up.”
“Our primary customer is Aurora, for sure. There is no question about that,” he said in a March 2 phone interview with Yahoo Finance Canada. “On the sell side, we felt that there would be obviously production requirements that Aurora would have from us for a certain type of material.”
Asked if the company has material customers aside from Aurora, Taschuk said Radient is currently “diversifying its customers base,” pointing to a recently announced agreement to supply Shoppers Drug Mart. However, he expects deliveries under that new three-year deal won’t begin until the company’s next quarter.
Craig Wiggins of the cannabis industry research group TheCannalysts was among the first to voice suspicion about the seemingly-cozy relationship between one of the world’s largest cannabis producers and the small extraction company.
“When I see a company that doesn't have any cash, not just putting their toe in the water and buying $5 million of biomass, but buying $20 million in biomass on their first purchase, it is shocking,” he told Yahoo Finance Canada.
Wiggins said the fact that a sale from Aurora to Radient took place while the two companies have a “tolling agreement,” where Radient could simply process the raw material in the same way for a fee rather than booking it as a sale, is another significant red flag. He estimates Radient would have booked about $3 million in sales in its most recent quarter, rather than $11.2 million, if the tolling agreement was used in place of sales.
Taschuk said, “While we are capable of providing tolling services, we wanted to expand our offerings and leverage our team of in-house scientists and product development specialists so that we are more than just a service provider.”
“Is this financial engineering? Absolutely,” said Wiggins. “There is a perception of collusion, with ample evidence supporting that perception. With no denial from either company, the evidence seems to suggest that this is no longer a question of ‘if [Aurora] sold product that they bought back,’ and more a question of ‘how much did they do it?’”
Wiggins estimates of the $32 million worth of cannabis that Aurora wholesaled in its last three quarters, Radient likely received at least $20 million.
In December, Aurora’s then-executive chairman, and now interim CEO, Michael Singer boasted in a press release about the company’s “effort to be explicitly transparent with our shareholders” and its “commitment to enhancing overall governance.”
For Wiggins, those words ring hollow. “Given this situation involves two public companies possibly colluding to inflate sales, I would slot this behind CannTrust and the illegal grow, but ahead of other cannabis scandals in terms of stories that tarnish the industry’s reputation.”
Note: Wiggins and his immediate family hold no positions in Aurora or Radient.
Jeff Lagerquist is a senior reporter at Yahoo Finance Canada. Follow him on Twitter @jefflagerquist.