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Cannabis dealmaking is likely to continue into the new year.
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The cannabis industry is growing like a weed, and its greatest accomplishment in 2018 might just be gaining legitimacy.
To our north, Canada became the first industrialized country in the world, and only the second overall, to legalize recreational cannabis. When the industry is running on all cylinders, we could be talking about $5 billion in added annual sales flowing into legal pot companies.
Within the U.S., a handful of new states approved marijuana initiatives. Voters in both Missouri and Utah approved medical cannabis measures during midterm elections, with residents in Michigan doing the same for a recreational marijuana proposal. All told, 32 states have now authorized medical cannabis in some form, with 10 allowing adult-use weed.
Image source: Getty Images.
But this biggest indicator of industry validity might just be the rash of big-name partnerships we've witnessed since August.
On Aug. 1, Molson Coors Brewing (TAP 0.02%) kicked things off by announcing a joint venture with Quebec-based HEXO to create cannabis-infused beverages. The fact that Molson Coors sought out a cannabis partner isn't the least bit surprising, with the beer maker's market share declining precipitously in Canada over the past decade. What was surprising is that Molson Coors chose HEXO, a company that was mostly off the radar for most pundits. HEXO does offer an estimated 108,000 kilograms of peak annual production, likely placing it on the back end of the country's top-10 producers by output. It also signed a five-year agreement to supply Quebec with an aggregate of 200,000 kilograms of cannabis.
Two weeks later, on Aug. 15, Modelo and Corona beer maker Constellation Brands (STZ 0.01%) announced what would be the largest pot deal in history -- a $4 billion equity investment in Canopy Growth. When the deal closed, Constellation had a 37% stake in Canopy Growth, with 139.7 million warrants that, if exercised, could push its ownership up to 56%. Aside from merely working on new products, this massive equity stake demonstrates that brand-name companies see the marijuana industry as a lasting, high-growth opportunity.
And then, just over a week ago, Altria announced its intention to sink $1.8 billion into Cronos Group, which is good enough for a 45% stake. Along with the warrants Altria will receive, it could up its ownership in Cronos to 55%.
With so many deals happening, the big question is: Which marijuana stock is next?
My suspicion is that it'll be the following three.
Let's state the obvious: Aphria (APHA +0.00%) has a lot of issues right now. A recently released short-seller report alleges that Aphria's management grossly overpaid for three Latin American acquisitions with the intent of pocketing gains for certain company insiders who had ties to these purchased properties. Mind you, these are allegations that Aphria has vehemently denied, but it's created a crisis of investor confidence for the company that could spill over and hurt its ability to find a brand-name partner.
However, Aphria does have two pretty big factors working in its favor. First, it's slated to be the third-largest cannabis grower by peak annual production (255,000 kilograms). With its two largest projects expected to be complete next month -- Aphria One and Aphria Diamond -- the company's ability to be a top-tier producer will no longer be in question. Aphria could potentially help a brand-name tobacco or beverage partner immediately.
The other interesting factor is that Aphria recently added Tom Looney as a director on its board. Looney spent more than 30 years in the alcohol beverage industry, including time as the former President of Diageo's U.S. Spirits & Canada division. Diageo has been rumored to be actively seeking a cannabis partner, and it would make complete sense if, with Looney's influence on Aphria's board, an infused-beverage deal or equity investment were struck between the two companies.
Image source: Getty Images.
Sometimes, size matters -- and when it comes to peak production potential, no company can rival Aurora Cannabis (ACB +0.05%).
Prior to the completion of its ICC Labs acquisition in South America, Aurora had been forecasting 570,000 kilograms of peak yearly output. ICC, however, had approximately 1.1 million square feet of greenhouse projects ongoing and 92,000 square feet of operational growing space, not to mention acres upon acres of expansion potential. Conservatively, 700,000 kilograms in annual production within three to five years is possible. Being able to generate this much cannabis, and already having a presence in 18 countries, Aurora would appear to be a target for brand-name partners.
It looked as if Aurora had found its partner in Coca-Cola back in September. Rumors from multiple sources suggested that Coca-Cola and Aurora were in discussion about a possible partnership or investment. However, these discussions never materialized into a deal, with Coca-Cola choosing to take a step back and monitor the industry from a distance in late October.
Nonetheless, it's evident that brand-name beverage companies have their eyes on Aurora Cannabis, and, in turn, Aurora has expressed interest in entering the CBD-infused beverage market. Don't be surprised if 2019 is the year that Aurora finds a partner.
Image source: Getty Images.
Finally, a real wildcard for 2019 could be The Green Organic Dutchman (TGODF +0.00%).
On one hand, The Green Organic Dutchman, which goes by the acronym TGOD, should be a top-five producer if it meets production expectations. Management, following three partnerships and announcements in June, pegged peak annual production at 195,000 kilograms. Depending on how quickly Tilray ramps up, that could slot TGOD in as the fourth- or fifth-largest marijuana grower.
On the other hand, TGOD is really late to the game. It's not even expected to log its first cannabis sale until sometime during the first half of next year. With a number of the company's peers considerably further along in their capacity expansion endeavors, it could wind up hurting TGOD's chances of landing a big-time partner.
The wildcard is how The Green Organic Dutchman is divvying up its production. Approximately 40,000 kilograms, or just over 20% of aggregate peak output, will be devoted to cannabis-infused beverages and edibles. These alternative products are expected to have juicier margins over the long run than dried cannabis flower. This facility is essentially a dangling carrot for beverage and snack companies looking to get in on the high-growth pot industry. It would not surprise me if TGOD found itself a partner next year.