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The 1 Marijuana Stock That Investors Should Keep An Eye On

By Jim Crumly - Updated Nov 29, 2018 at 11:16AM

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With demand across all product categories ballooning, so does cost of goods sold, for this cannabis industry supplier.

As the legal marijuana industry explodes in North America, there is plenty of money to be made by selling the supplies that producers and vendors of cannabis products need to operate. KushCo Holdings (KSHB) gives investors a pure-play opportunity to invest in the marijuana industry supply chain, and the company can barely keep up with the growth of demand for its products.

KushCo, formerly known as Kush Bottles, got its start in 2010 supplying specialized, regulation-compliant packaging to the marijuana industry, but has diversified into other product areas so that packaging is now only contributing 25% of sales. Vaporizer products are the company's biggest segment, and comprising the rest of its business is papers, supplies, labels, seals, and a new product line of gases and solvents for oil extraction. This wide range of products makes KushCo a critical supply chain partner for the cannabis industry.

A vaporizer and a grinder of marijuana

Image Source: Getty Images

Accelerating revenue growth

KushCo's results from its fiscal fourth quarter, ending August 31, illustrate the effects of taking a lead position in a market that is growing explosively. The announcement of results was delayed until November 26 while the company sorted through some accounting issues and added a new CFO to relieve the Chief Operating Officer who had been shouldering the accounting duties. When the results belatedly came out, the numbers revealed stunning growth.

Revenue for the full year grew 117% to $52.1 million, marking the fourth straight year of triple-digit top-line growth. Revenue in the fourth quarter was 55% above that of the previous quarter and all product categories contributed to that growth.

Product Category Q4 Sales Percent of Total Sales Q4 over Q3 Growth
Vaporizer $10.72 million 53.7% 57.6%
Packaging $5.06 million 25.4% 48.2%
Papers & Supplies $2.30 million 11.5% 52.2%
Energy & Natural Products $1.63 million 8.2% 266%
Labels, Seals, & Application $0.24 million 1.2% 32.7%
Total $19.96 million 100% 55%

Also impressive is the customer acquisition driving KushCo's growth rate to three times that of the industry. Two years ago, the company had seven customers that brought in at least $100,000 in revenue each, and none that bought more than $500,000. In the last year, 83 customers bought more than $100,000, and 14 of those contributed more than $500,000 to the top line. 

Growing pains

It would be difficult for a company to grow so fast without experiencing some growing pains, and KushCo had them in spades last quarter. Costs ballooned faster than sales as the company scrambled to meet demand.

Metric Q3 Q4 Increase (Decline)
Revenue $12.91 million $19.96 million 55%
Cost of goods sold (COGS) $9.25 million $16.64 million 80%
Gross margin 28.3% 16.7% (11.7 percentage points)
Operating expense $5.74 million $12.9 million 125%
Earnings per share ($0.03) ($0.11) (267%)

  According to the company's most recent conference call, the huge increase in COGS came as a result of customer orders, which came in faster than the company had planned. Most of KushCo's products are manufactured in China, and under normal circumstances would be shipped by boat, taking several weeks to make the trip across the Pacific. But in order to meet the accelerating demand, KushCo had to ship the products by air, greatly increasing costs. Making matters worse, when the products arrived in California KushCo had to ship directly to customers on the East Coast from there, rather than stocking inventory in its Massachusetts distribution center, a move that kept customers happy but rang up high shipping charges.

Operating costs also took a big hit from an inventory writedown. A change in California's marijuana packaging regulations required KushCo to scrap its inventory and take a large one-time charge.

These profit setbacks are symptomatic of a chaotic market situation and should ultimately be fixed. Gross margin for the full year was 24%, and KushCo said that figure would have been 30% without the inventory adjustment. The company has also putting in place new systems and processes for inventory management, and has said it can achieve more than 30% gross margin in the future. 

Packages of marijuana.

Image source: Getty Images.

Can KushCo keep it up?

Such rapid growth should be attracting attention from investors, but KushCo's stock has done relatively little in a year where many marijuana stocks have skyrocketed. Shares are up just 35% in 2018 despite booming, triple-digit sales growth. Part of the hesitance might be doubt about whether the company can fend off competitors, if a packaging company that already supplies the pharmaceutical industry or a surge of entrepreneurs enter the space.

But KushCo has diversified to the point where it can offer a range of products beyond that of any packaging specialist. It has also been able to win trust and create "sticky" relationships with marijuana producers and retailers. On the latest conference call, founder and CEO Nick Kovacevich said that smaller players in the industry are hitting a wall when they reach about $12 million in revenue and most have been unable to raise capital to pass that point. 

Meanwhile, KushCo expects more of the same when it comes to top-line growth. The company projected revenue for fiscal year 2019 to be between $110 million and $120 million, more than double the sales in the prior year. The risks are not insignificant in such a chaotic market, but with a market capitalization of just $435 million, or 3.8 times the 2019 sales guidance, KushCo could be the closest thing to a bargain  in marijuana stocks at the moment.

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