It’s been a minute since Tilray (Nasdaq: TLRY) went public, but investor Michael Hudson is suing the company for what he claims are “ breaches of fiduciary duties, unjust enrichment, and waste of corporate assets, and violations of the Securities Exchange Act of 1934.”
The complaint, filed on March 1 in the Southern District of New York, hinges on two sets of allegations. The court filing states, “The first category of false statements relates to the value of Tilray’s inventory and its gross margins. The second category of false statements relates to the entrance into, and the value of the Company’s agreement with Authentic Brands Group.”
The origin of Tilray was Privateer, a privately owned Canada-based business created by Brendan Kennedy, Michael Blue, and Christian Groh to invest in cannabis companies. In 2014, Tilray was formed as a subsidiary, and in July 2018 the company went public through an IPO on the Nasdaq.
At the time, it wasn’t lost on veteran stock watchers that after the company went public, Privateer ended up with an 82% ownership stake and 93% voting power. The limited amount of public shares caused the stock to pop on opening stock and drove attention to the green rush of cannabis stocks. The insiders had agreed to not sell shares for six months.
Once the lockup expired, the shares began selling off, and Hudson claims that the deal with Authentic Brands was done to prop up the stock price, rather than being the great deal that Kennedy claimed it was.
In addition to the complaints about the ABG deal, Hudson alleges that Tilray was trying to make the company look more successful than it was.
The complaint states that in the two quarters after its IPO, “Tilray’s gross margins had fallen from 55% to 31%, raising doubts about whether Tilray could survive in a fiercely competitive field. To allay stockholders’ concerns, there is evidence that, under the direction of defendant Kennedy (aided by Mark Castaneda (“Mr. Castaneda”) and the Board), Tilray recognized more than $40 million of unsellable marijuana plant waste as valuable inventory and subtracted the $40 million from Tilray’s cost of sales. This had the effect of improving Tilray’s margins and making it seem far more profitable and promising than it really was.”
The complaint also accuses Tilray of inflating the value of its inventory by $68 million. The court document notes that Tilray’s reported inventory grew from $16.2 million at the end of 2018 to $48.7 million after the first quarter of 2019. It continued its climb to $75.3 million halfway through 2019 and ultimately $111.5 million at the end of the third quarter of 2019.
According to the allegations in the Securities Action, this growth was a farce. The Securities Action alleges that Tilray overvalued “worthless” trim – materials left over after harvesting the buds and flowers of the cannabis plant – and other unsellable formulated oils.
The operative Securities Action complaint cites one former employee’s recollection of “bags and bags, and boxes and boxes of end-of-run materials,” materials which were not given a defined internal value but ascribed a value on Tilray’s financial statements of over $40 million.
The Securities Action plaintiffs allege there was “no way to sell” these materials and “Tilray should have classified them as waste.” The Securities Action quotes another former employee who stated that defendant Kennedy valued worthless, non-reusable oils between $750,000 and $7,500,000.”
The inventory was written down in 2020 by 40%.
Hudson then moves on to complain about the deal Tilray secured with Aphria.
He alleges that Kennedy had to come clean about the ABG deal and wrote down the value by 86%. Kennedy also wanted to remain CEO of the combined Ahpria and Tilray companies.
The combination of the inventory and ABD writedowns caused the Aphria negotiations to pause. When the deal finally closed at the end of December 2020, Aphria was larger than Tilray, and Kennedy lost the control he desired, Hudson said.
The court complaint also chides Kennedy for selling his shares at opportune times, while other investors saw their share value plunge by 98%. Kennedy served as Tilray’s president and chief executive officer from 2018 to Dec. 15, 2020, and as a member of its board from January 2018 to Nov. 20, 2022.
The stock was lately selling at $2.77 and has had a 52-week high of $9.08. The stock sold as high as $300 a share in September 2018, but ultimately ended the year selling at roughly $76 a share. By the end of 2019, the stock was selling for roughly $15 a share. 2020 closed with shares selling at approximately $8.
Separate from Hudson’s complaint, a Securities Action was filed in the U.S. District Court for the Southern District of New York dated Sept. 28, 2022. According to Hudson, Judge Paul A. Crotty denied Tilray’s and Kennedy’s motion to dismiss in significant part. The court filing states, “Judge Crotty upheld claims that Tilray and Kennedy violated federal securities laws relating to: (i) false statements overvaluing inventory materials which had negligible value, and (ii) false statements touting the value of the ABG Agreement.”
According to Law360, a spokesperson for Tilray told the website, “The underlying claims do not involve the existing management team or board of directors. The complaint is substantially similar to the other derivative complaints filed in the [Southern District of New York] and in the District of Delaware, which are stayed pending the outcome of the securities class action motion to dismiss process. We continue to believe that the underlying claims of these actions are without merit and we plan to vigorously defend these claims.”