In just one week and a day, the marijuana industry will be changed forever. Next Wednesday, Oct. 17, recreational marijuana will officially go on sale in our neighbor to the north, opening the door to an industry that could generate roughly $5 billion more in added annual revenue. The expectation of a surge in sales and profits is what's sent pot stocks through the roof over the past three years.
Unfortunately, history suggests that marijuana stocks are likely in a bubble. Each and every time the "next big thing" has cropped up over the past two decades, investors have substantially overshot to the upside. Whether it's the emergence of the internet, business-to-business commerce, genomics, 3D printing, blockchain technology, or any other "next big thing" investment, the bubble eventually burst. Chances are that marijuana stocks will as well.
The good news is a handful of companies in the marijuana industry will succeed, and over the long run investors can come out as winners. But it also means that there are some downright dangerous pot stocks that should probably be avoided at all costs. Here's a snapshot of what could probably be considered the three most dangerous marijuana stocks.
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Tilray
Even though it's a company whose business model I can appreciate, Canadian grower Tilray (TLRY +0.00%) is a pot stock that investors should avoid at all costs.
Tilray has been on high-octane fuel since mid-August, shortly after Modelo and Corona beer producer Constellation Brands announced its intention to make a $3.8 billion equity investment in Canopy Growth Corporation. The expectation from investors has been that Tilray is soon to follow with a deal of its own. A combination of an ongoing short squeeze coupled with bits and pieces of news, including the first import of medical cannabis into the United States, helped to briefly push the company to a $300 share price.
Even with a halving in Tilray's share price since its peak of $300, the company still looks to be grossly overvalued. Although it's expanding its capacity, the company's projected 850,000 square feet of completed production capacity by the end of this year significantly trails its large peers. To add, since Tilray will be busy expanding its production capacity and creating the infrastructure needed to enter foreign markets, it'll likely be losing money on an operating basis this year and next year, making it unappealing to fundamentally focused investors.
Investors should also take into consideration that Tilray hasn't passed its lock-up period yet. The lock-up period details a 180-day period where insiders are barred from selling their shares following an initial public offering. Once this date hits in mid-January, my suspicion is there will be substantial short-term pressure on the stock.
In short, Tilray could easily lose half of its value here, if not more, and it's worth staying away from.
Image source: Getty Images.
New Age Beverages Corp.
Whereas Tilray has a business model that I can fully appreciate given its focus on medical marijuana patients, there aren't nearly as many redeeming qualities for bottle-rocket New Age Beverages Corporation (NBEV +0.00%), which has catapulted higher by approximately 400% in less than four weeks.
New Age caught fire following rumors that Coca-Cola could be interested in acquiring the company, as well as an announcement that it would be debuting a new line of cannabidiol (CBD)-based beverages during a Las Vegas Convenience Store show Oct. 7-10. Cannabidiol is the non-psychoactive component of the cannabis plant that's best known for its perceived medical benefits. With alternative forms of cannabis consumption all the rage, especially following the Constellation-Canopy deal, investors are expecting New Age Beverages to succeed.
While the company does have a line of existing products that include teas, coffee, kombucha, coconut water, and energy drinks, developing a line of CBD-based beverages isn't going to be easy, nor is it guaranteed to succeed. It's unlikely to be the only player in states that allow CBD beverages, which could cause prices to be more competitive than investors probably realize, ultimately hurting margins.
Another concern is that New Age Beverages' existing product line isn't exactly burning things up. Sales are expected to fall by a single-digit percentage in the current quarter, and grow by a middling 5% to almost $55 million in 2018. Profits, however, remain elusive. Until New Age Beverages demonstrates its ability to successfully launch a new CBD product line and turn a profit, it has no business being anywhere near investors' portfolios.
Image source: Getty Images.
India Globalization Capital
Perhaps the most dangerous marijuana stock of all -- and a true sign of the bubble cannabis stocks have become -- is India Globalization Capital (IGC +7.50%). Since Aug. 13, 2018, India Globalization Capital has risen by more than 1,700%, through Oct. 4.
Like New Age Beverages Corp., India Globalization Capital has been rallying after announcing its intent to enter the hemp- and CBD-infused drink space. According to a Sept. 25 press release, IGC, as the company is also known, will pay 797,000 shares of restricted stock for a decade-long agreement allowing it the right to sell these CBD-based drinks in Canada, the U.S., Mexico, and South America. Investors are clearly expecting CBD beverages to be popular with consumers going forward.
However, IGC itself is a complete dart throw with just over a dozen employees. It essentially had two markedly separate operations prior to its beverage announcement that are in the early stages of development: a cannabis-based pharmaceutical operation and a legacy infrastructure segment that trades in infrastructure commodities like steel and iron ore. Therefore, entering the CBD-infused beverage market is an out-of-the-blue dart throw that's unlike anything this disjointed company has done before.
Making matters more worrisome, we're talking about a company that generated only $2.2 million in sales last year and has reported a net loss of between $1.8 million and $4.6 million in each of the past four years. India Globalization Capital also announced an at-the-market share offering of 5.65 million shares last week, raising gross proceeds of $30 million. While not surprising that the company sold shares following its incredible run-up, the dilution caused by this market offering represents another way this stock could weigh down the value of investors' shares.
With little in the way of substance, IGC could very easily be the most dangerous marijuana stock of them all.
