Few industries have created as much buzz in recent years as the legal marijuana industry. In North America, cannabis research firm ArcView, in partnership with BDS Analytics, found that legal pot sales grew by 33% to $9.7 billion in 2017. By 2021, assuming an average annual growth rate of 28% in North America, legal pot sales could near $25 billion. And in a decade, ArcView anticipates we could be looking at roughly $47 billion in annual sales. These figure are simply too delectable for growth-oriented investors to ignore, which is a big reason marijuana stocks have catapulted higher.
We've also witnessed a pretty decisive shift in how the American public views cannabis. Back in 1995, national pollster Gallup found just 25% support among respondents for legalizing pot nationally. By comparison, support for legalization hit an all-time record high of 64% in October 2017. This support has been instrumental in allowing 29 states to put sweeping medical cannabis legislation on their books, along with nine states that've allowed the use of recreational marijuana to some degree.
America's first marijuana stock reports its full-year results
Of course, operating a marijuana business in the U.S. comes with a host of challenges given that cannabis is still a Schedule I drug -- i.e., wholly illegal -- at the federal level. Still, that hasn't stopped Medical Marijuana, Inc. (MJNA -6.25%), the first U.S.-listed cannabis stock, from trying to succeed in a tough market.
Two weeks ago, this over-the-counter-listed small-cap producer of cannabidiol (CBD) -- the non-psychoactive component of marijuana -- and CBD-rich hemp oil reported its long-awaited fourth-quarter and full-year results for 2017. In many ways, shareholders had a lot to smile about. But in other aspects, Medical Marijuana left a lot to be desired. Let's take a brief look at what's to love and hate about this full-year report.
Three things that should please optimistic investors
The most impressive takeaway from Medical Marijuana's full-year report was the company's total sales growth. It wound up tallying just a tad over $26.5 million in sales last year, up more than 230% from 2016. The bulk of this growth, as noted by the company's press release, came from subsidiary Kannaway, which delivered $15.9 million in full-year sales, up almost 270% from the prior-year period. In short, Medical Marijuana is beginning to produce serious sales numbers, and it may be on its way to generating in excess of $10 million in quarterly revenue, beginning in the first quarter of the current fiscal year.
Next, take note of the company's expanding gross profit as its sales ramp up. Medical Marijuana actually benefits in two ways as its business grows. First, economies of scale often allow for lower aggregate costs over time for cannabis companies. Second, the company's focus on CBD-infused hemp oil provides it with a niche product that commands a considerably higher price point -- and higher margin -- than traditional dried cannabis. In 2016, the company generated $8 million in sales and had $3.37 million in total cost of goods sold (COGS), good enough for a gross margin of 57.9%. But in 2017, the company's COGS totaled $8.11 million compared to $26.52 million in sales, producing a gross margin of 69.4%.
Lastly, pay attention to the comments from CEO Dr. Stuart Titus regarding the record year. Titus said, "Medical Marijuana, Inc. and its subsidiaries experienced substantial growth in 2017, breaking record after record in sales achievements. Our leadership teams have expanded greatly including international growth in Europe, Brazil, and Mexico." In other words, Medical Marijuana is sufficiently diversifying its operations beyond the U.S., where the outlook for legal cannabis remains somewhat murky. The legalization of medical cannabis in Mexico in June 2017 certainly appears to be helping sales.
Three things that should have investors worried
However, no earnings report is perfect, and Medical Marijuana's full-year results do raise some concerns.
To begin with, the company ended the year with ownership of around 43% of AXIM Biotechnologies' (AXIM 3.76%) outstanding shares. AXIM is a clinical-stage cannabinoid-based drug developer aiming to tackle a variety of ailments with products such as a CBD-infused chewing gum. The issue I've taken with AXIM is that it carries a very lofty valuation for a company that's yet to really demonstrate much in the way of efficacy in clinical trials (a majority of its 16 listed studies are in the preclinical stage of development). Though Medical Marijuana is up significantly on its initial investment in AXIM, its total assets could also decline if AXIM's share price continues heading lower from its 2017 highs. In short, being tied to AXIM isn't necessarily a good thing.
Next, we have a problem that pretty much seems to plague every marijuana stock: dilution. Since cannabis is illegal in every country except for Uruguay, access to basic banking services, including a means to raise capital, can be challenging. In the company's annual report filing with the Securities and Exchange Commission, it noted that 145,469,621 shares were issued last year, most of which (138.8 million) went toward the conversion of $7.17 million in convertible debt. With more convertible debt still to be dealt with down the road, dilution will likely keep rearing its head, making each existing share less valuable.
Finally, Medical Marijuana just keeps losing money. In 2017, the company took a massive goodwill impairment charge of $130.8 million that resulted in it logging a $135.5 million comprehensive loss for the year. Even without this goodwill impairment, interest expenses would have pushed the company into a loss. If this stock is to have any hope of moving higher, investors are going to need to see a decisive push toward recurring profitability.
As for this investor, I believe there are enough warning signs for the time being to observe Medical Marijuana from the safety of the sidelines. While its recent growth is noteworthy, there are simply too many concerns to ignore.