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Canada's Proposed Tax on Recreational Marijuana Looks to Be a Major Win for Pot Producers

By Sean Williams - Oct 15, 2017 at 11:41AM

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Legal weed in Canada should be highly competitive with black-market pricing.

Few industries are seeing green like legal weed. According to a recently released report from Marijuana Business Daily titled "Marijuana Business Factbook 2017," the U.S. legal cannabis industry is expected to grow by about 30% in 2017, 45% the following year, and an aggregate of 300% between 2016 and 2021. Overall, we're talking about a roughly $17 billion industry by 2021.  It's no wonder investors are so excited about marijuana stocks.

The tide has also turned with regard to public perception. CBS News conducted a poll in 1979 that found only 27% support for a nationwide legalization of recreational pot in the United States. In April of this year, it conducted the same poll and found that support for nationwide legalization had more than doubled to an all-time record high of 61%. 

A cannabis joint in front of a red Canadian maple leaf.

Image source: Getty Images.

Canada looks to become the first developed country to legalize recreational cannabis

Amazingly, though, it's not expansion opportunities in the U.S. that have marijuana stock investors so intrigued. The federal government's antipathy toward weed, and Attorney General Jeff Sessions' war on cannabis, will probably prevent any meaningful progress before the next election cycle. Instead, it's the opportunity for legal pot in our neighbor to the North that has investors so intrigued.

In April, Prime Minister Justin Trudeau introduced legislation that would legalize recreational marijuana for adults ages 18 and up by as soon as July 1, 2018. The Canadian government has estimated that legalizing recreational cannabis would result in $5 billion to $7 billion in added revenue each year, and it would complement the country's rapidly growing medical-cannabis industry. During a May press release from Health Canada, the regulatory agency in charge of wellness for the country's citizens, it was announced that the number of eligible enrollees in Canada's medical-weed program was growing by 10% a month

Canadian marijuana stocks prepare to ramp up production

The prospect of an influx in demand has sent shares of all four of the major Canadian medical cannabis producers -- Canopy Growth Corp. ( CGC -3.57% ), Aphria (NASDAQOTH: APHQF), Aurora Cannabis ( ACB -5.21% ), and MedReleaf (NASDAQOTH: MEDFF) -- soaring higher. In fact, there's been concern that supply would be unable to meet demand given that Canopy Growth and Aphria already export some of their dried-cannabis production to foreign markets where medical cannabis is legal. 

An outdoor commercial cannabis grow farm.

Image source: Getty Images.

Furthermore, all four of these Canadian pot-growing giants are in the midst of massive capacity expansion projects, and there's been no guarantee that they'll be done before July 2018. For instance, Aphria's phase 4 expansion project aims to boost grow capacity to 1 million square feet, while Aurora Cannabis' Aurora Sky project entails an 800,000-square-foot, highly automated facility when complete. Likewise, MedReleaf is expanding capacity at its Bradford facility, while Canopy Growth has been primarily busy on the acquisition front. But many of these projects could be pushing the deadline to be completely ready by the summer of 2018.

Here's a big reason for Canadian pot producers to cheer

Perhaps the biggest overhang for Canadian medical-cannabis stocks is what would happen with recreational-weed taxation. After all, if legalized pot is considerably more expensive than black-market cannabis, then the consumer will simply stick with the black market. Trudeau made it crystal clear in April that he wanted to eliminate the black market entirely, but the details on taxation were still unknown at the time. Today, we know what those taxes will look like, and let me tell you, it's a big win for Canadian pot companies.

According to Canadian officials, the proposal involves a $1-per-gram tax ($0.80 in U.S. currency) on marijuana sales costing up to $10 a gram (or $8 U.S.). The tax for more expensive marijuana above $10 a gram would be a flat 10%. This excise-tax outline allows legal marijuana to be priced very similarly to that of black-market weed and, perhaps more importantly, taxes recreational marijuana at a lower rate than alcohol in Canada. These four pot producers have to be thrilled with this excise-tax proposal.

The Canadian government also outlined that it'll be splitting the tax revenue 50-50 with the provinces. This revenue is expected to be used by provinces to regulate and police the production, distribution, and sale of recreational weed. 

Cannabis buds next to a judge's gavel.

Image source: Getty Images.

Trudeau aims to counter objections

Despite promising to legalize recreational weed previously and having his efforts stall, Trudeau isn't backing down this time around. To squash black-market operations, Trudeau is leaning on the aggressively low tax described above to drive consumers to legal channels. But he's also aiming to make life tough for those who don't follow the law.

Canada plans to retain all of the current sanctions it has in place against the illegal production and distribution of marijuana, while also adding a new offense for those who sell cannabis to adolescents ages 17 and under. This new penalty could carry up to 14 years of jail time. 

The Canadian federal government also plans to tightly regulate cannabis producers, while setting the bar on potency standards and penalties for abuse. The provinces themselves would set their own regulations with regard to distribution and police for violations, including potency issues, as well as driving under the influence of cannabis.

But there are a lot of objections

However, even with strict regulations proposed, and a favorable tax system that should favor legal channels, not everyone is on board.

A young man in a hoodie holding a cannabis plant.

Image source: Getty Images.

For example, some lawmakers worry that a home-grow option will give adolescents easier access to marijuana. Pot proponents argue that it doesn't matter much to begin with, given that Canada's youth already has the highest use rate of any developed country in the world. Regulating the market, these proponents suggest, will be the smarter move. Nonetheless, skeptics believe this home-grow option is bad news for adolescent minds that could be adversely affected by regular weed use.

Provincial mayors and officials are also critical of the law, suggesting that a 50-50 share of excise-tax revenue isn't sufficient since they'll be doing the policing. These mayors and officials suggest that it's simply not possible to get enforcement in place by the time Trudeau plans to wave the green flag on the sale of legal pot this coming July.

Additional concerns involve driving under the influence of cannabis, as well as the 18-year age limit, which provinces have the discretion to increase.

Long story short, though the groundwork has been laid for marijuana stocks to succeed, there are no guarantees that recreational-weed legalization will go smoothly, if at all, in Canada.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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Stocks Mentioned

Aurora Cannabis Stock Quote
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$5.82 (-5.21%) $0.32
Canopy Growth Stock Quote
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