Are Pot Stocks Too “High”? (Chart of the Day 11)

Restrictions Fall Everywhere

The Cannabis Industry is grabbing the attention of investors, but it remains very misunderstood.  For one thing, the legality of Cannabis use completely differs by location and is often contradictory.

Federally, possession or sale of Cannabis is illegal.  Each State and Territory has its own set of laws.

California was the first state to permit medical use in 1996.  Since then, 32 more states have followed suit.  In 10 states, it is legal for recreational use. In other states, possession remains a felony.(https://en.wikipedia.org/wiki/Legality_of_cannabis_by_U.S._jurisdiction).

(Dark Green: Fully Legal). (Medium Green: Fully Medically Legal). (Light Green: Partially Medically Legal). (Gray: Illegal).

The Farm Bill of 2018 made production of Hemp, a derivative of the Cannabis plant, legal but heavily regulated.  Hemp is defined as a plant below 0.3% THC, the ingredient that produces a high.   A derivative of Hemp, known as CBD (or Cannabidiol) is showing great promise in various pharmaceutical uses.  (https://www.brookings.edu/blog/fixgov/2018/12/14/the-farm-bill-hemp-and-cbd-explainer/).

Legalization Around The World Has Just Begun

The first western country to legalize Cannabis was Canada in October, 2018, joining only Uruguay and South Africa.

A number of countries have made medical use legal, primarily in Europe and South America.  The laws governing sales and use vary tremendously by region. (https://en.wikipedia.org/wiki/Legality_of_cannabis).

(Blue: Fully Legal). (Dark Red: Illegal). (Orange: Decriminalized). (Pink: Illegal, But Rarely Enforced).

 

Marijuana Stocks are Wildly Volatile

New Cannabis Ventures, an excellent source of company information, publishes a “Global Cannabis Stock Index” which appears on the left.  (https://www.newcannabisventures.com/cannabis-stock-index/#constituents).

The index is equally weighted, rather than by Market Capitalization, which is more commonly used.  Nevertheless, the index includes 43 public companies and totals a bit less than $50 Billion in value.

So far, the cannabis sector has swung wildly in market value.  For good reason. There is little concrete financial information that can point to a specific “asset” value.

 

Marijuana Mania: Valuations Are “High”

Ranked by Market Capitalization, the Top 5 Cannabis companies and their Price/Revenues are as follows:

Company                                     Market Capitalization                                    Price/Sales

Canopy Growth                                         $14.9 B                                                                      211

Tilray                                                             $  7.3 B                                                                       88

Aurora Cannabis                                        $ 6.4 B                                                                       111

GW Pharmaceuticals                                 $ 4.2 B                                                                       NA

Cronos Group                                              $ 2.2 B                                                                       200

These five companies represent roughly 70% of the entire sector’s market capitalization.  All of these are Canadian and serve the medical marijuana market in Canada.  None of these companies are permitted to do any business in the United States as long as Federal Prohibitions remain in place.

The only traditional metric, price to sales, is practically meaningless.  None of these companies are profitable.  To make matters more confusing, these companies are very actively acquiring smaller outfits in order to take advantage of Canadian legalization.

Both Canopy Growth and Aurora have bought multiple smaller operators blurring any type of year-over-year comparisons.

GW Pharmaceuticals is a Biotech company whose CBD formula has been FDA approved for medicinal use. It has no revenues to speak of but will be commercializing its Epidolex treatment for Epileptic seizures.  Epidolex is the first FDA approved treatment using CBD.  Proponents estimate that sales may reach $1 Billion or more annually.  https://www.fool.com/investing/2018/06/26/why-gw-pharmaceuticals-stock-sank-after-its-mariju.aspx

But No Evidence of a Mania or Bubble

Charts of the 5 largest Cannabis companies are below in the Slide show.  Some key takeaways:

  1. Every company is in a longer term Up Trend but NONE shows signs of  the acceleration indicative of a mania.
  2. Marijuana companies are still subject to extreme price swings from perceived wins and losses with respect to legalization and news events like FDA approvals.

How Much Growth And How Soon?

One cannot easily justify investment in this industry using traditional metrics.  That the industry will experience explosive growth for many years is not in doubt.  What IS in doubt is the extent and timing of the growth.

The extraordinary potential of this industry has been written about for many years. A good refresher of the timeline can be found here: “The Cannabis Industry Then and Now”. (https://markonomics101.com/2018/09/27/the-cannibis-industry-then-and-now/).

The sheer breadth of possible products is jaw dropping.  The commercial production of Hemp, freshly made legal in December, 2018 is used in textiles, clothes and paper.  CBD oil has many, as of yet unknown, pharmaceutical applications.  The oil can also be used in the formula of consumer products, especially in the beauty and cosmetics sector.

Canopy Growth has pledged $100 million plus to build the first Hemp Processing facility in New York.  Even WITHOUT full legalization, Hemp production and processing ALONE can fuel YEARS of growth.

Global spending on legal cannabis is expected to grow to $32 billion in 2022 from $9.5 in 2017, according to Arcview Market Research and BDS Analytics.  More than 70%, or $23.4 billion, will come from the United States. (https://www.investopedia.com/investing/top-marijuana-stocks/).

Partnerships Affirm Value

Corporate partners appear to be “lining up” to grab a meaningful stake in this sector.  Constellation Brands (CB), the parent of Corona Beer, recently invested a cool $4 Billion in Canopy Growth.  The investment increases its ownership to nearly 40% with options to go even higher.  Not insignificant is Canopy’s access to Constellation’s vast distribution network, capital and management expertise.  The $4 Billion is a sizable commitment from CB, whose market capitalization is only $30 Billion.

Altria, the tobacco division of the old Phillip Morris, recently bought 45% of Cronos.  Tilray has formed commercial partnerships with Anheuser Busch.  (http://fortune.com/longform/marijuana-weed-cannabis-tilray-stock/).

The fact that large Multi-Nationals are falling all over themselves to get a piece of the action ought to be enough to make these companies interesting speculations for the long term.  The Marijuana Industry shows NO SIGNS of a BUBBLE or MANIA.

  1. The Market Capitalization of the entire Industry, roughly $50 Billion, is FAR LESS than Dot Com Mania (less than 5%).
  2. There were no “Corporate acquisitions” during Dot Com Mania.  They verify the value, add to growth and vastly reduce risk in the marijuana industry.
  3. Cannabis growing is not rocket science.  It’s straightforward, profitable and relatively easy to understand.

The Most Lucrative Cash Crop

 

 

The infographic on the left compares the profitability of various legal and illegal cash crops. The analysis is from 2014.  (https://informationisbeautiful.net/visualizations/what-is-the-worlds-biggest-cash-crop/).

Cannabis production exceeded an estimated $300 Billion per year, making it the LARGEST CASH CROP in the world.

The potential is arguably many times that.

 

 

Cannabis stocks are definitely “high” but for many good reasons.   This sector, currently sporting a $50 Billion market capitalization, could easily $ 1 Trillion or more.   It clearly warrants investor interest.

Information is always a great investment.  That’s our job.  We hope you’re enjoying our unique analysis.

Be Informed, Not Misled!

 

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