Poison in the pot: how the ‘cannabusiness’ bubble has burst and why investors should be wary of this unpredictable marijuana market.
For those who are looking to invest their money into a new, competitive sector, cannabis stocks might seem like the perfect solution. It is expected to explode in growth, with one report predicting $42 billion in legal cannabis sales for 2024 alone. Yet, cannabis stocks can be unpredictable as many investors from the first half of 2019 found out. Here are 3 reasons why you should be wary about investing in cannabis stocks.
1. The Hype Train
The beginning of 2019 saw a new era for pot stocks, or so some people thought. With the legacy of 2018 cheering on the marijuana industry, the market seemed sure to carry this positive trend into the new year. Indeed GW Pharmaceuticals (NASDAQ: GWPH) released the first FDA-approved cannabinoid medicine and the likes of Tilray (NASDAQ: TLRY) and Canopy Growth (NYSE: CGC) made their first appearances on major U.S. stock exchanges.
With all the signs pointing towards a recession throughout 2019, many ‘experts’ began to tout cannabis as the new and resilient ‘vice-industry’ that could survive a market downturn. Using alcohol and tobacco sales from the last recession to bolster their findings, cannabis, it would seem, should have continued to grow. For the average joe that might have seemed promising, but cannabis stocks couldn’t handle the hype. In the latter half of 2019, the majority of them lost upwards of 50% of their market cap value. Aurora Cannabis’s (NYSE: ACB) market capitalization went from $13 billion in March 2019 to just $3 billion by the start of 2020.
The coronavirus crisis has shown that there is strong consumer demand for weed, even in times where people are less financially stable. However, one thing that COVID-19 has shown itself particularly good at is stripping away any potential from small businesses and start-ups. With this sector being relatively new, this is not a vice-industry that can sustain itself during a recession. Additionally, now that weed is normalized, there is every possibility that it will become just another grocery product business.
For many investors, increasing sales is the most important metric of a company’s success, but it is one of several key aspects. The majority of pot stocks, despite their glowing reports of high growth, are not profitable.
For example, Canopy Growth was expected to be a darling of the pot market receiving a $4 billion investment from Constellation Brands (NYSE: STZ) in 2017. Canopy growth did show a 49% increase in sales over the last fiscal Q3, but Constellation reported a loss of $71 million from its investment in the company for its own 3rd fiscal quarter earnings report. This has resulted in a management reshuffle at Canopy with a Constellation-appointed executive now at the helm.
Other big names in the cannabis sector are Aurora, Tilray, and Aphria (NYSE: APHA), amongst others. The majority of these companies are running into cash flow problems and are spending more than they make. For Aurora, the last 12 months have seen a total operations loss of $319,626 and its net income comes in at -$1.4 million. A similar tale holds true for a majority of the other cannabis stocks. For a relatively new market, this is not unexpected, but the rocky start and the dissipating hype make these numbers much more worrying.
3. Limited International Expansion
Long term growth opportunity seems strong. Many fans of marijuana argue that with different strains there can be different uses, medical or otherwise. This gives the illusion that this market can break new and innovative ground. But Weed is just another commodity in which personal tastes dictate its consumption, much like that of fruit or veg. Additionally, other companies are likely to stay a safe distance from the market after what has happened to Constellation Brands.
There is also the argument that international expansion could present a lucrative possibility in the future as cannabis-use has become increasingly normalized and accepted. With Tilray and EXMceuticals (CNSX: EXM) expanding into Portugal, the possibility for a wider market spread is there. However, the international expansion would be hampered by the simple problem of legality in many states across the world. If countries in Europe and Asia, for example, were to legalize, then many of the Dutch companies such as Bedrocan International, which already possess a 61% European market share, would rush to fill in the gap.
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