Last week, Oregon and Alaska added their names to a growing list of states that have legalized the use and possession of marijuana for recreational purposes. The moves further the belief that nationwide decriminalization of cannabis is right around the corner.
Does this mean it's time to double down on marijuana stocks? According to three of our contributing writers, probably not.
1. No durable competitive advantage (John Maxfield)
Here's the problem with the marijuana stocks I've come across: Aside from the fact that the companies are run by people I wouldn't lend my lawnmower to, the companies themselves don't have durable competitive advantages. As a result, when real money starts flowing into the industry, they'll be squashed like bugs.
Colorado-based Advanced Cannabis Solutions offers a case in point. Its business model consists of buying real estate, and then leasing that real estate to people in the cannabis industry. Now, I'm far from an expert on either real estate or the cannabis trade, but I struggle to see anything unique or particularly valuable about that strategy. As best as I can tell, it is striving to be a landlord.
It's also worth noting that the people who are gravitating to the industry are probably not the ideal stewards of publicly traded companies. A corporation is nothing more than a legal construct. If the executives of these companies are willing to operate in the legal gray zone of federal drug laws, who's to say they won't play fast and loose with the laws that govern their duties to shareholders?
2. Commoditization of pot (Jordan Wathen)
Like John, the competitive dynamics in the marijuana business give me pause. I've seen several companies that plan to generate revenue from the actual cultivation and retailing of marijuana, a business with very little opportunity for excess returns.
Farming isn't a particularly attractive business. Ultimately, the only excess profits in marijuana cultivation are really the result of risk, primarily legal risk. If it weren't for this risk, cultivating marijuana would be only as lucrative as growing corn, a business few people are eager to enter because returns are so low.
Over time, I can't help but think that those who focus on the commoditized portions of the industry -- retail sales, cultivation, etc. -- will ultimately see their profits normalize with supply and demand. Returns on capital will decline, and competitive pressures will make marijuana companies look like any other highly competitive business in which consumers, not investors, enjoy the benefits of hard work and billions of dollars in invested capital.
3. Weak clinical trial data (George Budwell)
Although I think there are multiple reasons to avoid buying marijuana stocks, the weak clinical trial data thus far for medical cannabis casts a long shadow on this controversial industry. Marijuana has long been touted as a "cure-all" for a diversity of ailments, but the recent relaxation of laws permitting the scientific investigation of the drug's clinical profile has finally allowed companies to dig into these claims.
For instance, medical cannabis has repeatedly been proposed as an effective and safe treatment for spasticity associated with multiple sclerosis. GW Pharmaceuticals (GWPH) has developed a marijuana-based treatment called Sativex for this indication, and the drug is marketed in over 11 countries. Even so, the company's questionable clinical data has led to significant pushback from payers in countries such as the U.K., and U.S. regulators have demanded further studies prior to approval.
Specifically, one of the largest studies to date reported that 36% of patients withdrew because of either side effects or a lack of efficacy. GW's researchers have nevertheless argued that Sativex is indeed an important new treatment for MS spasticity, but the clinical studies, to me, paint a mixed picture on this issue.
