2018 hasn't been a good year so far for two marijuana stocks. Canadian marijuana grower Aphria (NASDAQOTH: APHQF) has seen its stock fall more than 20% year to date, while shares of Scotts Miracle-Gro Co. (SMG -2.81%), a major supplier to the marijuana industry, are down more than 40%.
Is either stock worth considering and, if so, which is the better pick? Here are the strongest arguments for buying Aphria and Scotts Miracle-Gro.
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The case for Aphria
Let's first look at why Aphria stock has fallen so far this year. It's simple: The company issued a boatload of new shares to help fund its acquisition of Nuuvera. Aphria's share price decline began immediately after the announcement of the Nuuvera deal. And the drop is right in line with the amount of stock dilution resulting from the acquisition.
What's important, though, is that the Nuuvera purchase, in combination with an earlier acquisition of Broken Coast Cannabis, essentially created "a new Aphria." The company should now be in better position to compete for market share in the global medical marijuana market and the coming recreational marijuana market in Canada.
Aphria was already a major player in the Canadian medical marijuana market. The addition of Nuuvera gives the company a foothold in several international markets, including Germany, Italy, Spain, Portugal, Malta, Australia, and Lesotho. The most important of these is Germany, which legalized medical cannabis last year and has a population more than double that of Canada.
Few companies are as well-positioned to pursue international medical marijuana markets as Aphria now is. The company is one of only a handful of marijuana growers on the German government's short list for cultivation licenses. Aphria has a supply agreement in place already with the second-largest pharmaceutical distribution company in Germany.
Aphria also should be in good shape to go after the retail market if Canada legalizes recreational marijuana later this year as expected. The company recently received approval for an expansion at its facility in Leamington, Ontario, that more than triples its production capacity to 30,000 kilograms annually. This expansion, combined with its acquisition of Broken Coast Cannabis and supply deal with Double Diamond Farms, should give Aphria annual production capacity of 230,000 kilograms.
With heavy expected demand for recreational marijuana in Canada and more international markets opening up for medical marijuana, Aphria could be looking at several years of rapid growth.
The case for Scotts Miracle-Gro
Why has Scotts Miracle-Gro stock plunged this year? It's not as good of a story as Aphria's. In January, Scotts reported a worse-than-expected first-quarter loss, causing its share price to skid. Weakness for its Hawthorne business, which provides products to the marijuana industry, was the culprit.
The good news is that the problems for Hawthorne should only be temporary. Scotts Miracle-Gro CEO Jim Hagedorn attributed the sluggishness of the unit to "the slower-than-expected pace of regulatory changes in California." California is the biggest U.S. state for marijuana sales, so delays in authorization and regulations for marijuana growers especially hurt Hawthorne's business.
While Scotts Miracle-Gro waits for California regulatory kinks to be worked out, the company should also benefit from more states allowing medical and recreational marijuana. New Jersey could be the next large state to legalize recreational use of marijuana, after the election of Gov. Phil Murphy in November. Murphy supports legalization efforts.
Some of the same tailwinds helping Aphria also help Scotts. The company already operates in Canada and is already benefiting to some extent from growth of the medical marijuana market there. Legalization of recreational marijuana in that country should create even more opportunities for Scotts' Hawthorne unit.
Scotts Miracle-Gro's future isn't solely tied to marijuana, though. The company makes 57% of its revenue from its large U.S. consumer business, which markets consumer lawn and garden products. Another 8% to 9% of revenue comes from sales of consumer lawn and garden products outside of the U.S. and from product sales to commercial nurseries, greenhouses, and other professional customers.
One thing we can't leave out when talking about the case for buying Scotts Miracle-Gro stock is its dividend. The dividend currently yields 2.5%. Scotts is also in great shape to keep the dividends flowing, with a payout ratio of less than 53%.
Better pick
Which of these two marijuana stocks is the better choice? It depends on what kind of investor you are.
If your style of investing is more conservative, Scotts Miracle-Gro is the better pick. The company's product line is more diversified. Scotts pays a dividend. And, with the stock trading at 16 times expected earnings, it's much cheaper than Aphria.
On the other hand, if you're a more aggressive investor, Aphria is probably a better fit. The stock should take off if Canada moves forward with legalization of recreational marijuana. International momentum should also help Aphria.
My view is that this could be like the fable of the tortoise and the hare. Aphria is the hare. I suspect the stock is likely to perform better than Scotts over the next couple of years. Scotts might be the tortoise, but it just might win the race over the long run.
Both stocks face significant risks, however. Sooner or later, supply for cannabis will catch up to demand. When that day comes, Aphria will likely suffer. As for Scotts Miracle-Gro, the company's fortunes depend on state laws allowing the sale of marijuana to go unchallenged by the federal government. There's no guarantee that there won't be a federal crackdown, though.
