Tomorrow, Wednesday, Oct. 17, Canada will become the first industrialized county in the world where marijuana is legal for adult recreational use -- and only the second country, along with Uruguay, where such use is legal. 

Not only does this open up a huge market -- estimated at $5 billion per year on top of medical marijuana sales -- it also has the potential to help speed up legalization on the federal level in the United States and other countries. In the U.S., 30 states have broadly legalized cannabis for medical use, while nine states and Washington, D.C., have legalized it for recreational use. 

Marijuana stocks have largely been flying high in advance of this historic event, though most are somewhat off their recent highs. While investors can expect extreme volatility to continue, there are bound to emerge some long-term winners in this space. Worldwide spending on cannabis is projected to rise from $9.5 billion in 2017 to $32 billion by 2022, according to ArcView Market Research and BDS Analytics. That's a torrid 27.5% compound annual growth rate.

If you're interested in marijuana stocks, below are two charts that should help you watch this space, as well as some specific stocks to focus on.  

A marijuana leaf facing up with a hazy blue and orange background resembling a blue sky or ocean and a sunset or sunrise.

Image source: Getty Images.

Marijuana stocks: Pure plays

Below is a list of 17 pure-play marijuana stocks that have market caps of at least $500 million, with two exceptions, along with two marijuana exchange-traded funds (ETFs). (The reasons for the exceptions are discussed below.) The list is not meant to be all-inclusive. For instance, I left out one company that has a horrible balance sheet (that's not to say that all the companies below have decent balance sheets -- they don't).

The bulk of these companies are marijuana growers that are already involved in the medical marijuana market, and many are vertically integrated, with operations ranging from growing cannabis to selling end products to consumers at licensed dispensaries. Some of them are also working on developing pharmaceuticals and other wellness products from a specific cannabinoid found in marijuana, with most of the focus on cannabidiol (CBD). (Cannabinoids are a group of chemical substances found in marijuana.) 

Company

Business

Market Cap

Country

Profitable?(TTM)

1-Yr. / 3-Yr. Returns

Tilray (NASDAQ: TLRY)

Marijuana grower

$15.4 billion

Canada

No 653%*** / N/A
Canopy Growth Corp. (NYSE:CGC)

Grower

$13.1 billion Canada No 453% / 3,580%
Aurora Cannabis (NASDAQOTH: ACBFF) Grower $11.2 billion Canada Yes** 400% / 3,870%
GW Pharmaceuticals (NASDAQ:GWPH)
Biotech $4.6 billion U.K. No 28.9% / 63.4%
Aphria (NASDAQOTH: APHQF) Grower $3.8 billion Canada Yes** 147% / 2,060%
Cronos Group (NASDAQ: CRON) Grower $2.1 billion Canada Yes** 357% / N/A
HEXO Corp. (formerly The Hydropothecary Corp.) (NASDAQOTH: HYYDF) Grower $1.4 billion Canada No 323% / N/A
The Green Organic Dutchman (NASDAQOTH: TGODF) Grower $1.1 billion Canada No 39.4%*** / N/A
CannTrust Holdings (NASDAQOTH: CNTTF) Grower $1.2 billion Canada Yes**

73.6%*** / N/A

TerrAscend (NASDAQOTH: TRSSF) Grower $1.2 billion Canada No

522%***/ N/A

MariMed (NASDAQOTH: MRMD)  Service provider $949 million U.S.-Boston area No 1,000% / N/A 
Organigram (NASDAQOTH: OGRMF)  Grower $799 million Canada Yes** 168% / 2,140%
Auxly Cannabis (NASDAQOTH: CBWTF) Streaming (Buying future marijuana production from growers at a preset price and reselling) 

$643 million

Canada No 4.7% / N/A
Emerald Health Therapeutics (NASDAQOTH: EMHTF) Grower / biotech

$540 million

Canada No 229% / 3,400%
CV Sciences (NASDAQOTH: CVSI) Grower / biotech

$535 million

U.S.-Las Vegas Yes 2,360% / 628%
MedMen (NASDAQOTH: MMNFF) Grower

$443 million

U.S.-Los Angeles area No 85%*** / N/A
Innovative Industrial Properties (NYSE:IIPR) Real estate investment trust (REIT) $420 million U.S.-San Diego Yes 130% / N/A
Horizons Marijuana Life Sciences Index ETF (NASDAQOTH: HMLSF) ETF $1.1 billion*  Canada N/A 157% / N/A
ETFMG Alternative Harvest ETF (NYSEMKT: MJ) ETF $813 million*  U.S. N/A 37.2%/ N/A
S&P 500 -- -- -- -- 9.8% / 44.6%

Data sources: Yahoo! Finance, YCharts, and company websites. Data to 10/15/18. OTC = over the counter. TTM = trailing 12 months. *Assets under management. **Profitable from an earnings standpoint, but operating and free cash flow are negative. ***Has traded for less than one year. 

Exceptions to the minimum market cap: MedMen last week announced it was acquiring Chicago-based PharmaCann for $682 million. So, this acquisition should easily boost the company's market cap above $600 million. And Innovative Industrial Properties is the only REIT involved in the marijuana realm, to my knowledge, so it's worth including.  

When searching for a marijuana stock to invest in, focus on companies that are adequately capitalized and positively differentiating themselves from the growing pack, as unprocessed, or lightly processed marijuana will likely eventually become quite commoditized. The long-term winners will probably have a sustainable competitive advantage, such as: 

  • Partnership with a powerful company.
  • Focus on high-margin products, such as cannabis oils.
  • Brand-name strength.
  • Industry-low production costs. (Aphria is frequently cited as being among the lowest-cost growers, thanks largely to its focus on using greenhouses rather than indoor facilities.) Certainly, automation should play a huge part in helping to bring production costs down.

Let's dig into a few of these companies that seem to have a good shot at being long-term winners.

Canopy Growth Corp.: A key partnership

Canopy is generally considered to have the second largest marijuana production capacity in the world, behind Aurora Cannabis. It has a solid presence in international medical marijuana markets, and with retail recreational cannabis supply agreements in place covering all of Canada's provinces and territories, the company is set to start raking in much more green on Oct. 17. 

What's most notable about Canopy is that it snagged a huge partner: alcoholic beverage giant Constellation Brands (NYSE:STZ). In August, the maker of Corona and Modelo beers announced it was investing nearly $4 billion in Canopy, upping its previous stake to 38%. Moreover, Constellation purchased warrants, which give it the option to increase its stake to a majority one in the future. The two companies are working on developing cannabis-infused beverages, which are expected to get regulatory approval in Canada next year. (Only dried flower and cannabis oils will become legal on Oct. 17,  with cannabis-infused beverages, edibles, and other consumer products expected to get the green light next year.) Constellation's global distribution network and deep pockets combined with Canopy's relative scale and marijuana-producing know-how have the ingredients for a successful teaming.

Investors can expect more tie-ups like this. In fact, in August, Molson Coors Brewing and HEXO Corp. announced they were forming a joint venture focused on non-alcoholic cannabis-infused beverages for the Canadian market. There's been buzz (pun intended) that Coca-Cola and PepsiCo are looking for a cannabis partner, but no deals have been announced.

Pile of pills with a marijuana leaf on top adjacent to three pill bottles laying on their sides.

Image source: Getty Images.

GW Pharmaceuticals: A first-mover in cannabis-derived prescription drugs

Founded in 1998, GW Pharmaceuticals is the first-mover in developing prescription drugs derived from cannabinoids. The company made history when it launched Sativex in the U.K. in 2010. This was the world's first drug derived from the cannabis plant to receive regulatory approval in any country. Sativex is now sold in many countries, though not in the U.S., as a mouth spray for alleviating neuropathic pain and other symptoms of multiple sclerosis. 

In June 2018, GW Pharmaceuticals dove into the record books again when Epidiolex became the first drug derived from a cannabis plant to get the nod from the U.S. Food and Drug Administration. The drug, which is slated to launch this fall, is approved to treat patients with two forms of epilepsy. In September, the company notched another "first" when the U.S. Drug Enforcement Administration classified Epidiolex as a Schedule V drug, which is the least restrictive prescribing category of controlled substances. The DEA had to get involved because all marijuana-derived products automatically fall into the most restrictive Schedule I classification since cannabis is not legal in the U.S. on the federal level. 

While GW Pharmaceutical isn't profitable, Wall Street analysts expect it to be in five years. GW's balance sheet is hardy enough to withstand the company continuing to invest in growth while Epidiolex's sales ramp up. (Market researcher EvaluatePharma projects Epidiolex will generate sales of nearly $1 billion per year by 2022, as my colleague Keith Speights reported.) At the end of the second quarter, the company had nearly $442 million in cash and cash equivalents, which, at its current rate of cash burn -- about $142 million per year -- will last about three years. 

Innovative Industrial Properties: A marijuana infrastructure-focused REIT

Innovative Industrial Properties is worth exploring if you want exposure to the legal cannabis market but desire a less-risky alternative to most of the marijuana stocks. Founded in late 2016, this company touts itself as "the first publicly traded company on the New York Stock Exchange to provide real estate capital to the medical-use cannabis industry." As is typical for real estate investment trusts, the company is profitable and pays a solid dividend, currently yielding 3.2%. 

Innovative Industrial Properties' portfolio is comprised of nine specialized industrial and greenhouse buildings that are 100% leased to state-licensed medical marijuana growers. These facilities are located across seven of the U.S. states where medical marijuana is legal. The company buys growers' properties and then leases them back to them, which enables the growers to plow more money back into expanding their business. It uses long-term, triple-net leases, with built-in annual rent increases, which results in a very predictable income stream. (Triple-net leases are ones in which tenants pay for variable costs such as insurance and maintenance.) 

Marijuana stocks: Non-pure plays

Here are some notable non-pure plays on marijuana, all of which are based in the U.S.

Company

 Business

Market Cap

Profitable(TTM)

Projected Avg. Annual EPS Growth Next 5 Yrs.*

1-Yr. / 5-Yr. Return

Constellation Brands 

Alcoholic beverage maker 

$42.3 billion Yes 12% 9.2% / 275%
Scotts Miracle-Gro (NYSE:SMG)

Consumer lawn and garden care products maker; hydroponic products maker 

$4.1 billion Yes 3.7%  (24.6%) / 55.6%
Cara Therapeutics (NASDAQ: CARA) Biotech $762 million No N/A 55.7% / N/A
Insys Therapeutics (NASDAQ: INSY) Biotech $644 million No N/A 14.7% / N/A
KushCo Holdings (NASDAQOTH: KSHB) Packaging maker $450 million No N/A 221% / N/A
S&P 500  -- -- --   9.8% / 79.6%

Data sources: Yahoo! Finance and YCharts. Data to 10/15/18. TTM = trailing 12 months. *Wall Street's estimates.

Constellation Brands

Along with the previously mentioned Corona and Modelo beers, Constellation's well-known brands include Robert Mondavi wines. The company had sales of $7.9 billion over the past year, so its partnership with, and 38% stake in, Canopy Growth isn't likely to move the needle for some time. That said, if you believe -- as I do -- that CBD-infused (for wellness benefits) and tetrahydrocannabinol (THC)-infused (for psychotropic effects) beverages will be even more popular than many are projecting, then there's good reason to believe the company's planned new venture will eventually be a notable contributor to its profits.

Investing in Constellation is a good way for investors to get exposure to the fast-growing marijuana space, and specifically to Canopy Growth, with a lot less risk than buying Canopy or another more typical "marijuana stock." In recent years, Constellation's revenue growth has been solid, and its earnings have been strong. Wall Street expects the company to grow earnings per share (EPS) at an average annual rate of 12% over the next five years, but if cannabis-infused beverages take off, Constellation could exceed this estimate.

Scotts Miracle-Gro

Scotts Miracle-Gro's core business produces and sells lawn and garden care products to consumers in the U.S.. The company also has a subsidiary, Hawthorne Gardening Co., which makes and sells hydroponics products. (Hydroponics involves growing plants in a nutrient-rich, water-based solution, rather than using soil.) Hawthorne is what makes the company a play on marijuana, as hydroponics is a popular method for growing the plant. 

Through last year, Scotts' stock had outperformed the broader market over just about every period. But the stock's performance has suffered in 2018, reflecting the subpar performance of both of its segments. In the first nine months of fiscal 2018, Scott's revenue slipped 2% year over year, with sales in the consumer business -- which accounted for 84% of total revenue -- declining 2%, and Hawthorne's sales dipping 1%. Excluding the contribution from acquisitions, Hawthorne's sales dropped 33%. EPS declined 12%, or 6% when adjusted for one-time factors. 

Scotts' management attributes Hawthorne's struggles to "regulatory changes in California and an over-production of cannabis in that state and others last year," as CEO Jim Hagedorn said in the company's third-quarter earnings press release, along with marijuana legalization rolling out at a slower-than-expected pace across the U.S. The slight downturn in the consumer business has been attributed to 2018's long winter across much of the country. The effects of weather are outside of the company's control and are usually one-off things. And Hawthorne, which has been growing quickly in recent years, remains well positioned to continue growing along with the overall marijuana market. Moreover, the company pays an attractive dividend -- currently yielding 3%. 

Caution is the name of the game

Marijuana stocks are a volatile and risky bunch. There seems to be little doubt that they're in a bubble, and the story will probably end badly for investors in most of these stocks. That said, when things shake out, it seems likely that there will be some long-term winners -- and perhaps a huge winner or two -- among the many losers.

To increase your chances of choosing a long-term winner, focus on companies that are adequately capitalized and appear to have a sustainable competitive advantage. 

Beth McKenna has no position in any of the stocks mentioned. The Motley Fool recommends Auxly Cannabis Group, CannTrust Holdings Inc, Constellation Brands, Hexo Corp., Innovative Industrial Properties, KushCo Holdings, and OrganiGram Holdings. The Motley Fool has a disclosure policy.