The global marijuana market is growing, and investors are eager to invest in marijuana stocks likely to benefit from legalization. The opening of Canada's recreational marijuana marketplace in October and the passage of propot laws in three more U.S. states mean the industry made big progress last year, but not every marijuana stock is worth owning. While there are plenty of investment options for investors, here's why I think Canopy Growth (CGC -3.08%), Aurora Cannabis (ACB -2.06%), and KushCo Holdings (KSHB) are top marijuana stocks to buy in 2019.
A market with momentum
Canada's medical marijuana market has been a big success since rules were enacted in 2014 creating a licensing system. The medical marijuana market in Canada now serves hundreds of thousands of patients, generating hundreds of millions of dollars in sales for marijuana companies collectively.
The recreational marijuana market there could be far bigger, though. In October, a national marijuana market opened for business to higher-than-expected demand that resulted in product shortages. The initial demand could mean that recreational market sales will exceed $1 billion in Canada in 2019. According to Deloitte, recreational sales this year could eclipse $1.8 billion, more than double the $770 million it expects in medical marijuana sales.
In the U.S., the marijuana market could also experience breakneck growth in 2019. Last year, California's highly anticipated recreational market opened for business, and that market alone could generate more than $5 billion in legal sales in 2019, according to BDS Analytics.
Additionally, Massachusetts' first two recreational marijuana stores opened in November, and in their first five days, sales totaled $2.2 million. GreenWave Advisors estimates Massachusetts' medical and recreational sales could be $230 million in 2018, and in 2019, its likely sales will be much greater than that as additional stores open and marijuana tourism increases. Following approval in Michigan in November, future dispensaries in that state could add meaningful revenue too.
Overall, 33 U.S. states have legalized marijuana in one form or another, including 10 states that have legalized its recreational use. U.S. spending on marijuana, including black-market sales, currently exceeds $40 billion. By 2030, it could reach $80 billion per year, according to research firm Cowen & Company.
No. 1: Canopy Growth
The planet's biggest marijuana companies, including Canopy Growth, have been avoiding the U.S. marijuana market because marijuana remains prohibited federally. Soon, that could change following the passage of the latest U.S. Farm Bill, which was signed into law on Dec. 20.
In the past, farmers have been prohibited from growing hemp, a type of cannabis that's low in the psychoactive chemical cannabinoid THC. However, industrial hemp is no longer a controlled substance following the Farm Bill, clearing the way for more widespread growth and more hemp-based products.
On the same day that President Trump signed the Farm Bill, Canopy Growth announced it will "participate in the American market now that there is a clear federally permissible path." As part of its plan to profit from the shift, Canopy Growth acquired ebbu Inc. in October for about $330 million. That deal gave Canopy Growth intellectual property and research expertise into hemp cultivation that it believes positions it perfectly to accelerate production at its hemp farm in Saskatchewan and develop hemp-based products for use in cannabis-infused beverages and wellness products.
On Jan. 8, Canopy Growth updated investors on its progress, reporting it has harvested over 4,500 acres of hemp in Saskatchewan and that its annual production capacity of hemp-derived cannabidiol -- a chemical found in marijuana that's nonpsychoactive -- is about 7,000 kilograms. Cowen & Company estimates hemp may add $1.6 billion in revenue to the industry in "the next year or two," and Canopy Growth's progress suggests it's doing the footwork necessary to capture a share of those sales.
Recreational marijuana sales in Canada could be the biggest driver of Canopy Growth's success this year, though. In its most recently reported quarter, Canopy Growth sales were 23.3 million Canadian dollars, up 33% from the same time last year. That could be only the beginning. Last quarter's performance only included about CA$700,000 in recreational sales associated with inventory building ahead of Canada's recreational market opening, and according to Cowen & Company, Canopy Growth's sales could skyrocket to CA$239 million this fiscal year and CA$778 million in fiscal 2020 as Canada's recreational market matures.
Check out the latest Canopy Growth earnings call transcript.
No. 2: Aurora Cannabis
Canopy Growth isn't the only cannabis company that should see its sales surge higher in 2019 because of Canada. A number of big acquisitions in the past two years have Aurora Cannabis running neck and neck with it.
On Jan. 8, Aurora Cannabis provided the first glimpse into the potential revenue opportunity associated with Canada's recreational market when it released preliminary financials for the three months ending Dec. 31. According to management, sales of its dried flower and cannabis extracts, including oils, were between CA$50 million and CA$55 million in the period, up from just CA$11.7 million in the same quarter one year ago and about CA$35 million in the prior quarter, including pro-forma impacts associated with its acquisition of MedReleaf, which closed July 25, 2018.
The CA$200 million annualized run rate should head higher throughout 2019 as more production capacity comes online. Aurora Cannabis' annual production capacity has grown to 100,000 kilograms from 70,000 kilograms in November, and this quarter, it expects to reach an annualized rate of 150,000 kilograms per year. Since it has approximately 570,000 kilograms of funded capacity projects planned, investors should expect that figure will grow consistently throughout 2019.
One of the biggest knocks against Aurora Cannabis has been that costly acquisitions using its shares have diluted potential future earnings per share for existing investors. That's true, but the company could make significant headway toward achieving profit in 2019. The production that's coming online now is from its state-of-the-art Aurora Sky facility, and production costs there are expected to be below $1 per gram, substantially less than costs have been previously. Also, management says it is holding the line on its selling, general, and administrative expenses. As a result, it thinks it can reach "sustained positive EBITDA beginning in Fiscal Q4 2019 (Calendar Q2 2019)."
Since Aurora Cannabis has the potential to contest Canopy Growth for market share leadership in Canada and its focus may be shifting toward the bottom line from a strategy of growth at any cost, this may prove to be a good year to buy shares, especially since they've fallen more than 50% since October.
No. 3: KushCo Holdings
KushCo Holdings doesn't compete against Canopy Growth or Aurora Cannabis. Instead, it supplies top marijuana growers, distributors, and dispensaries with technology, marketing, and packaging solutions that comply with stringent regulatory rules.
The company was formerly named Kush Bottles because it derived a lot of sales from bottles used in packaging dried marijuana and marijuana extracts. However, the company has made a string of acquisitions in 2018 that have expanded it into new areas, including extraction chemicals and brand marketing.
KushCo Holdings works with more than 5,000 different customers worldwide. Because each of these customers needs to avoid running afoul of rules, such as tamper-proof packaging, demand for packaging should continue growing alongside overall demand, particularly if new products, including edibles, get the green light in Canada this year and increasingly more states pass propot laws.
Last fiscal year, its sales more than doubled to more than $52 million, and its expansion plans, including a new facility in Massachusetts designed to serve emerging markets on the East Coast, have management anticipating sales will double again this fiscal year to $110 million.
The company's pick-and-shovel approach to serving the emerging cannabis marketplace suggests it's more insulated against the risk that overfarming could crimp prices per pound of dried flower that could weigh down growers, and its ability to help with brand building and product differentiation could provide value-added support to margins. Therefore, if the marijuana market continues to gain ground globally in 2019, I think KushCo Holdings will be a winner.