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Why Marijuana Stock Cronos Dropped 10% Today

By Brian Orelli, PhD - May 1, 2018 at 5:19PM

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It's hard to value markets in a high-growth industry.

What

Shares of Cronos Group (CRON 1.42%) fell 10% on Tuesday after an analyst at Canaccord Genuity downgraded the marijuana stock from hold to sell based on the company's valuation.

So what

On Monday before the bell, Cronos reported its fourth-quarter 2017 earnings, with sales up 274% year over year, but revenue started from a small base, so that only amounted to 1.6 million Canadian dollars.

For the entire year, sales were CA$4.1 million, but let's be generous and extrapolate out from the Q4 sales figure, giving Cronos an annual run rate of CA$6.4 million. (That's 1.6 million times 4 for those of you doing the math at home). Given that the company's market cap is about CA$1.4 billion, it's trading at a whopping 220 times sales.

Now sure, Cronos has a lot going for it, including international expansion into Israel thanks to a deal with Kibbutz Gan Shmuel, and a recent joint venture with MadMen Enterprises that will get its product into new retail stores in Canada. But it's going to require quite a lot of additional sales for Cronos to grow into its current valuation.

Marijuana on a background of Canadian flags

Image source: Getty Images.

Now what

As with any high-growth industry, it's quite hard to value the marijuana business. Without a history of legal sales to provide guidance, it's anyone's guess as to how large the market can really get. Tuesday's pullback in Cronos Group's share price might end up being a buying opportunity, but it seems investors are likely in for a roller coaster ride -- perhaps higher, perhaps lower, likely both -- until our understanding of the legal marijuana market becomes clearer.

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