The marijuana industry has been virtually unstoppable of late, and it's not hard to understand why. In just 17 days, on Oct. 17, 2018, Canada will make history by becoming the first industrialized country in the world to legalize recreational cannabis. In doing so, it'll remove the shackles of nine decades of prohibition and allow billions of dollars to flow into the industry.
Knowing that sales are about to soar, investors have been positioning themselves in marijuana stocks to take advantage of this growth. Those who've had the fortitude (and luck) to invest in pot stocks in early 2016 and hang on until now have probably seen high three- and four-digit percentage returns.
But the big gains may not be over, at least for marijuana stocks that could be takeover targets. Keeping in mind that this is an exercise in pure speculation, and with the understanding that investing in a stock solely because you believe it'll be bought out isn't a sound investment thesis, here are three marijuana stocks that are the likeliest to be acquired.
Image source: Getty Images.
1. OrganiGram Holdings
Consider this partly bias, because it is my favorite marijuana stock, but small-cap Atlantic-based grower OrganiGram Holdings (OGI -3.63%) has all the hallmarks of an attractive takeover target for a large cannabis company, or perhaps even an outside company in the beverage or tobacco industry that may want in on the cannabis movement.
OrganiGram has a number of things working in its favor. First, as noted, it's an Atlantic grower, whereas most of its peers are located in British Columbia, Quebec, or Ontario. This gives the company geographic appeal that Wall Street might be overlooking, which would make OrganiGram something of a bargain here.
Also, no other grower out there is making better use of its grow space than OrganiGram. The company is employing a three-tiered growing system in its 480,000 square foot Moncton, New Brunswick, facility. When capacity expansion is fully complete (likely by the first half of 2020), OrganiGram should be producing 113,000 kilograms of weed a year. Mind you, there are competitors out there working with more than 1 million square feet of growing capacity that'll struggle to yield 75,000 kilograms annually. The company's decision to focus on a single facility, as well as employ a three-tiered growing system, should help keep costs down.
We're also witnessing a commitment from management to focus on cannabis oils and other high-margin alternative products. Although dried cannabis is usually the most popularly purchased cannabis item, it's also easily commoditized over time. Oils, and other alternative products (once they're approved by Parliament), should help lift OrganiGram's operating margins, as well as make it more attractive to businesses operating outside the cannabis industry that are looking for a partner. Though a buyout is no guarantee, it looks to have all of the boxes checked as an attractive takeover target.
Image source: Getty Images.
2. CannaRoyalty
Even though it began as an investment company, CannaRoyalty (ORHOF) is a small-cap ancillary pot player that could become a buyout candidate.
Why CannaRoyalty? The simple answer is that it aims to service a profitable niche of California's pot industry. Moving away from its roots as a royalty company, CannaRoyalty has been focusing its attention on acquiring distribution market share in California's burgeoning cannabis industry. The Golden State, which could have higher annual weed sales than all of Canada, is expected to feature thousands of branded products across hundreds of licensed dispensaries. Yet, there are very few distributors that get the product from growers to retailers. CannaRoyalty aims to gobble up market share in that niche, which should turn out to be profitable and yield predictable cash flow.
This distribution model could (and probably will) be duplicated in other U.S. states and throughout global countries where the product has been legalized in some capacity. Being a go-to middleman in the cannabis supply chain could make CannaRoyalty a very attractive target for a larger industry player angling for predictable cash flow and profits.
Not to mention that CannaRoyalty could undoubtedly use the deeper pockets that a suitor would bring to the table. The company completed a convertible debenture sale in July for 33 million Canadian dollars, and ended June with CA$15.7 million in cash. Though that's probably more than enough capital to make small distribution acquisitions, as it's been doing for months, the deeper pockets of a larger suitor would allow CannaRoyalty to really go on the offensive and lock up distribution market share. It's certainly a name to monitor.
Image source: Getty Images.
3. Canopy Growth Corp.
Canopy Growth Corp. (CGC -3.01%) might be the second-largest publicly traded marijuana stock in the world, but that doesn't mean it's exempt from being bought out.
In October 2017, Modelo and Corona beer maker Constellation Brands (STZ 0.06%) invested around $190 million into Canopy Growth for a 9.9% equity stake. Then, in June 2018, Constellation Brands gobbled up a third of Canopy's CA$600 million convertible note offering. More recently, on Aug. 15, Constellation announced a game-changing equity investment of $3.8 billion in Canopy Growth. Once approved by regulators, Constellation will own a 38% stake in Canopy, with the ability to push its stake above 50%, should it choose to exercise the 139.7 million warrants that came with its investment, as well as convert its debt to common stock.
There appear to be two reasons Constellation is so "high" on Canopy. First, there's the ability to collaborate on new product development, such as cannabis-infused beverages. Canopy Growth knows the marijuana industry inside out, while Constellation has the deep pockets, brand-name, infrastructure, and marketing power to help get Canopy's products into new markets. And secondly, Constellation's alcohol sales have slowed in recent years, so investing in the cannabis movement is a logical next step.
The snafu is that Constellation's $3.8 billion equity investment will strain its balance sheet for about two years. Since Constellation's management team is steadfast about maintaining a certain leverage ratio on its balance sheet, no buyout would be expected before late 2020. However, if the duo works well together and the cannabis industry is everything it's been made out to be, Constellation may look to acquire what it doesn't already own by as soon as 2021.
