Investing in Marijuana, Without Tilray

In this episode of MarketFoolery, host Mac Greer and Motley Fool analysts Andy Cross and Emily Flippen take a look at two of the market's biggest stories. Tilray (TLRY) fell a bit on earnings today, and that's after falling to around $70 from highs near $300. Tilray's not exactly a value buy, though, trading for 160 times revenue.

Tune in to find out why long-term investors should avoid Tilray like the plague, and where they can look instead for exposure to what could be a very big, if low-margin, industry. Then the hosts break down Netflix's (NFLX 4.17%) decision to say, "Thanks, no thanks" to Apple's (AAPL 0.64%) new streaming service. Who will win in the streaming space? How can Netflix compete with so many deep-pocketed giants? Tune in to find out more.

A full transcript follows the video.

This video was recorded on March 19, 2019.

Mac Greer: It's Tuesday, March 19th. Welcome to MarketFoolery! I'm Mac Greer. Joining me in studio, we have Motley Fool analysts Andy Cross and Emily Flippen. Welcome! How are we doing?

Andy Cross: Mac, we're great!

Emily Flippen: Yeah, doing great! Good morning!

Cross: I love being on the show with Emily! This is a real treat for me!

Flippen: [laughs] We don't get to do it often, do we?

Cross: I know! This is great! Looking forward to it!

Greer: Good. Let's make the magic happen! We've got a lot of magic here. We're going to talk some Netflix and Apple not playing well together. We'll get to that. 

But we begin with marijuana stocks. Canadian cannabis producer Tilray down a bit on earnings. Emily, this was after they reported that sales nearly tripled, but they also reported a wider-than-expected loss. This company is losing a lot of money. I want to get your take on Tilray, but first, a quick walk down memory lane. The company went public back in July. Fifty-two-week-low of around $20 a share, high of around $300 a share. Today, the stock trades in the 70s. What do you think?

Flippen: Let's be clear, when we talk about sales growth, their sales growth is only up about 55% quarter over quarter, which might sound good to somebody who's comparing the marijuana industry to the retail industry or something along those lines, but competitors were growing faster than Tilray. While the top line seems to be growing strong, when you look at how that's actually flowing down to the bottom line, and how that impacts investors, it's a much different story. I think when you look at ` as a company, the biggest thing that would concern me -- and I'm not a shareholder; actually, it's on the avoid list for our marijuana service here. I'm not a huge fan, I'll just put that out there. But they issued $420 million worth of convertible debt, and that's virtually all of the cash that they have. And they're burning cash. So to me, they're taking a lot of moves that are diluting shareholder value, all while trading at a price-to-sales ratio of 160 times. 

Cross: Wait, I'm sorry, is that expensive? A hundred and sixty times revenues?

Flippen: Well, it's a little pricier than I'd like to pay, to say the least!

Cross: For reference, the S&P trades at like 2.5 times sales. Granted, Tilray is growing far faster than the S&P.

Greer: So, richly valued.

Cross: Richly valued, yes.

Flippen: Which is a generous way to describe it. Ultimately the issue then becomes, OK, there's a lot of premium priced into Tilray and where investors expect Tilray to go. They're still burning through cash. How much longer they can do that..? Well, now they have all this debt, so we know at least a little while longer. But the concern there is, a lot of these stocks, Tilray included, are flying high on valuations. As an investor, it makes me extremely nervous.

Greer: I hear some healthy skepticism. Is that fair?

Flippen: Probably an extra dose. Some extra healthy skepticism.

Greer: What's the good news? If you were to take the other side of this, and having just heard what you said, if five years from now, this stock and this company is wildly successful, what happened? What did you miss?

Flippen: There are many things I could be missing, two big ones. The first one is key alliances in this space. Tilray has done a great job of setting up some key alliances. Everybody's familiar with Anheuser Busch and their push into the CBD beverage industry. They also furthered their alliance with Sandoz, a drug maker. The cannabis space in general depends a lot on expanding those relationships, and Tilray has managed to do that.

Also, nobody really knows how large the marijuana industry is. If it turns out that this industry is huge, which it very well could be, and Tilray becomes the main supplier of medical cannabis and recreational cannabis, both of which they were selling last quarter, then it can mean that this valuation is somewhat deserved.

Greer: Andy, along those lines, Tilray CEO says, this is a quote, "We're still in the early stages of the global transformation of a $150 billion worldwide industry."

Cross: Well, he hopes so. I think he owns a majority of the stock through an investment vehicle on his own. He's got a lot riding on this, his reputation, the business. Clearly, when you think about the push, certainly in Canada, also in the United States, and the move toward medicinal and recreational cannabis use, all forms, the market -- as Emily said, we don't know exactly how large it is, but we're in an early stage. Finding growth companies that can truly benefit from that kind of investment and that kind of growth in consumer behavior could be a very profitable way to make an investment. I will say, as we talked about with a company like Tilray, that's on our avoid list because of the valuation. The volatility around these markets is going to be exceptional. If you're investing into the cannabis space, as we talked a lot about in our services that Emily helps lead, you have to be prepared for the volatility because it will come.

Greer: Speaking of that, I mentioned earlier the stock price. Fifty-two-week low around $20. Fifty-two-week high around $300. Today in the 70s. You're saying that I should not anchor to that $300, right?

Cross: [laughs] Definitely not! 

Greer: Not necessarily a bargain at $70?

Cross: Definitely not. A stock like this will definitely be one of the more volatile in this space.

Greer: OK, let's broaden it out a bit and talk about the industry in general. Marijuana now legal in Canada. But under federal law, Emily and Andy, it is still illegal in the U.S. But -- and there's a but here -- medical marijuana, legal in 33 states plus D.C. Recreational marijuana, legal in 10 states plus D.C. 

Flippen: About to be 11, too, it seems, with New Jersey. The United States is rapidly moving toward legalization. I've said this reckless prediction a few times, but my theory is that by 2020, we have federally legal recreational marijuana. I don't think a single presidential candidate is going to run on the platform of keeping marijuana recreationally illegal. It's going to be such a hot-button issue. 

That being said, it is still federally illegal, so a lot of these companies right now are operating in a pressured environment, to say the least. But as states begin to loosen the reins and as these companies get more opportunities to expand, there is going to be shakeout in the industry. You're going to be able to see which companies really have the chops to perform in what will likely be an extremely low-margin business and which ones simply don't have the gall or the capital to sustain themselves.

Greer: That's a beautiful setup for my new game. I call it Very Concerning, Somewhat Concerning, or Not at All Concerning. Ready? As an investor, I'm going to spot you up with something involving the marijuana industry. I want you to tell me whether it's very concerning, somewhat concerning, or not at all concerning. Let's begin with what Emily just mentioned, marijuana being illegal at the federal level.

Flippen: Not at all concerning.

Cross: Not at all concerning.

Greer: Marijuana stock valuations.

Cross: Very concerning.

Flippen: Very concerning. [laughs] 

Greer: Number of competitors.

Flippen: Somewhat concerning.

Cross: Yeah, somewhat concerning. Emily mentioned this, with the consumer product goods companies getting more involved in the space. We saw a company like Philip Morris actually make a big investment in Juul, which is an e-cigarette company, pushing for different ways to grow their brand. The large players, how do they play into the cannabis space?

Greer: At our recent Motley Fool event in Austin, Andy, Bill Mann mentioned that he thought Philip Morris could end up being one of the ultimate winners in this space. Do you agree with that?

Cross: Could be, maybe. I don't know if I necessarily have that much vision or confidence in that statement. I mean, I respect Bill, but --

Greer: [whistles] Those are some fighting words.

Cross: [laughs] Yeah, exactly, respect Bill Mann? No, I'm joking. I love Bill! When I think about the profitability of Philip Morris, the amount of capital they generate and put to invest, and the fact that their core market is obviously shrinking, and they make this big investment into the Juul e-cigarette, they bought 35% for $13 billion. They'll put capital to work where they think they can get a return. I don't know if it's them or if it's another one of the consumer products goods companies.

Flippen: For me the competition is twofold. It is a consumer products industry. You're going to have extreme competition for brands. To me, what's going to make marijuana really interesting is, I'm a believer in the fact that the recreational use is going to be the biggest driver of sales moving forward. It comes down to, as consumers, how you buy and consume marijuana. For me, a lot of it depends on brand. Same is true for THC products, also CBD products. It requires that company to have a really strong brand, have loyal customers coming back, possibly paying a premium for their products. 

Then, you have this entire other collection of companies which don't really have the same competition because they're ancillary. We talk about alcohol companies being some of those companies that are exposed to the marijuana industry with the potential for infused beverages. Companies that focus on dehydrating marijuana products, companies that focus on packaging marijuana products. All of these companies that don't necessarily physically own and grow marijuana or try to sell marijuana but help companies that do.

So competition, it is concerning in the sense that it's going to be stiff competition for those pure-play marijuana companies. But I only say somewhat concerning because there's a lot of companies out there that are poised to succeed that don't necessarily have that same intense competition that we're seeing.

Cross: I think that's an interesting point, Emily. Maybe a lot of listeners and investors or consumers may just think of marijuana as a commodity offering. What Emily was just saying is that it's really going to come down to brands, packaging, and products. That's going to change the landscape over the next 10 years as it becomes, eventually, legal here from a recreation perspective nationally. That's why I think Bill was saying Philip Morris, which specializes in brands, will be an ultimate beneficiary. I think that's very likely, I just don't know if it's a definite.

Greer: OK. As we wrap this up, Emily, you mentioned that Tilray is on our avoid list. If you're an investor looking at this space, what's the best way to invest in cannabis and marijuana?

Flippen: The important thing is to take a basket approach. At this point, trying to sift the diamonds from the rough is a challenge. You can see companies that are well run, where you really have inspirational leadership, doing very poorly in this space, even getting pushed out of this space. If I was investing in marijuana -- and I am, as part of the marijuana service -- the important thing for me to remind investors is, don't buy one or two companies like Tilray and Canopy and say, "I have this amazing exposure to the marijuana industry." What you actually have is extremely narrow exposure to one small slice of what could be a huge industry. Take a basket approach. Buy the upstream, buy the downstream, buy the ancillaries, buy the picks and shovels along with the pure-plays. That's your best way to long-term make money in the space. 

Greer: As we wrap up here, let's talk some Apple and Netflix. Apple expected to announce a television and video service at an event on Monday. We now know that Netflix will not be part of Apple's service. Netflix CEO Reed Hastings says, "We prefer to let our customers watch our content on our service." Andy, is that a surprise? What should we make of that?

Cross: It's not a surprise, Mac. I know we're in the middle of March Madness here, but I was thinking this is basically Netflix giving a little bit of the Heisman to Apple today. It's not a surprise. Emily and I were talking about this. Netflix didn't sign up for Apple's TV Guide service when they launched that a couple of years ago. They partner with Apple, certainly, on the different devices that Apple offers. You can get the Netflix application. But really, Reed Hastings taking the opportunity to say, "We have 100-million-plus subscribers around the world. We're big internationally. We spend $1.2 billion a year on technology, $8 billion to $12 billion per year on video programming, focusing really on building a unique original programming enterprise." They're seeing what Apple's doing and saying, "Hey, we don't need that. We're connected to about 600 million devices around the world. We have our space. We have our programming. We have our plan. We have our investments we're making. We have our partnerships. We don't need this one with Apple."

Greer: When we look at this space, we know that later this year, Disney coming out with their streaming service, Disney+. You're going to have Apple with their video streaming offering. You have Netflix, obviously. And you have Disney. You've got some real titans, and you have Amazon.

Cross: And Hulu, and Warner Media, and ESPN+, Showtime, Starz, CBS All Access. Some of those are partnering with Apple and apparently will be on the Apple streaming platform. But yes, a lot of competition, Mac.

Greer: So, when you look at it that way, Andy, do you still bet on Netflix as the leader in the clubhouse? Or do you think someone like Disney could be underestimated?

Cross: I think Disney could be underestimated. Obviously, that's going to be a key one to watch, and as I just mentioned, all these different competitors that are out there. 

Here's a couple of reasons why I think Netflix continues to win in this space. International programming. A lot of their growth is coming from international, not just from subscriber growth, but also from programming. They've been very careful and very diligent on developing international programming, both U.S. that can go international and specifically in the country. They're working with different guidelines, different regulations in those countries with how much programming has to be done in-country, to serve those consumers in that country who want in-country programming. Netflix has years of history running behind this. That's one reason. 

Another reason is, they have a technology and the data on their platform and the consumer behavior insights that nobody else has -- not even Apple, frankly, when it comes to this kind of programming. They have these insights. They can launch these programs. They're launching a lot of them every year, a lot of original programming onto the platform. They're gathering data, they are changing the terms that sometimes they will run for a couple of years, pull them off, have specific rules on where they can go to shop that into another streaming service. They're very particular about that. They have a lot of this history that I think gives them a runway that continues to be able to propel their growth.

Now, yes, they do have more and more competition. Reed said yesterday that "hey, we welcome the competition." I think that's a tried-and-true line that he's said before. And he's not the only one. Others talk about this, that competition is healthy for their industry. Clearly there are some very big, well-funded guns. Apple generates $60 billion in profits a year and has $85 billion on the balance sheet. As Reed said, it's a very well-funded enterprise that is going to put a lot more money -- they originally set a budget, I think, for a billion in programming. They quickly blew through that. They built a whole headquarters in Culver City, California. Clearly, Apple making a lot of investments in this space.

Flippen: Yeah. Before we came on the show, I made a little notes about some topics I might talk about, this being one of them. The only thing I wrote down was, "Am I supposed to be surprised by this? Are we supposed to be surprised by this?" Of course Netflix wants to keep streaming on their own platform! To Andy's point about a lot of the growth propellers being international content, I couldn't agree more. I think unfortunately, a lot of U.S. investors have very U.S.-focused mind-set about the future of streaming. In reality, Netflix has done a superb job of not only getting international subscribers for their content but actually building out international content. 

I spend a lot of my time looking at Chinese companies. One Chinese company that's popular around here is iQiyi. It's often called the Netflix of China, it's a Chinese streaming site which is kind of half YouTube, half Netflix. There's a popular Netflix Chinese show produced on mainland China that Netflix has. It's mentioned all the time on the free side of iQiyi. People love it. But iQiyi doesn't have the content for it. They don't have it in their own home country, Chinese-based company. That to me shows you the power of leverage that Netflix has. The last time I checked, Netflix is still blocked in China. I could be wrong about that.

Cross: No, it's blocked. They're in 190 countries, but not China.

Flippen: Think about that -- they're making money producing content in mainland China, written in simplified Chinese, so only spoken and used on the mainland, and they're the only ones that have that content. I mean, that's power.

Cross: I think what is really interesting, you look at some of the actresses and actors and directors who are tied into the Apple ecosystem -- Reese Witherspoon, Jennifer Aniston, M. Night Shyamalan, Steven Spielberg. Then you look at Netflix, with Shonda Rhimes and a few others. It will be very interesting to see how these producers of content, these creative folks, put their content and want to put their content and want to work with the likes of Apple or Hulu or Netflix or Disney or CBS All Access, wherever it might be. They think about what kind of flags they're planting into these companies, these streaming platforms, and, importantly, whether those are restrictive, whether they're unique or not, and how those deals get arranged. That will be really critical for these services to be able to continue to produce the original programming that consumers want.

Greer: As we wrap up, I've got to ask the question that everyone I think is asking: How about one new show recommendation? It doesn't have to be a new show. How about a show that we should watch?

Flippen: It's funny you ask, because last night, I was scrolling through Netflix in the little bit of my free time. I actually feel like I've seen a lot of Netflix shows at this point, but one I hadn't seen that just kept popping up -- you know how Netflix will keep showing you trailers of stuff until you watch it? It was Terrace House. I'd never heard of this. It was picked up by Netflix. It's a Japanese TV show, actually. It's possibly the most boring TV show that's ever existed.

I mean, it's literally, they just put six people in a house. There's no competition. There's no challenges. You just watch them talk about how their days went. But I watched like two episodes. [laughs] 

Greer: I just had a friend recommend that.

Flippen: [laughs] Really?!

Greer: Yes!

Flippen: It's weirdly addictive, I will say that. Although reading the subtitles is a little exhausting if you're looking casual viewing.

Greer: Boring but addictive, I like that combination. Andy, what do you got?

Cross: My family and I are heading over to London for spring break. The kids' first international trip. So, last night, I was getting all ready for the trip and had Netflix on. I don't watch a lot of Netflix. Like Emily, I was scrolling through, and I was amazed at all the original programming. And I came across one show that I did read about that I want to watch, which is The Bodyguard. 

Greer: Not the Whitney Houston one.

Cross: Definitely not the Whitney Houston one. Nothing against that. I think it's a fine movie.

Greer: Kevin Costner, woof. 

Cross: By the way, Kevin Costner has a new show on Netflix about the Texas Rangers that hunted down Bonnie and Clyde. It's coming out later this month.

Greer: Is he in it?

Cross: He is.

Greer: Pass.

Cross: He's in it with Woody Harrelson.

Greer: Oh, now I might...

Cross: It looks pretty good! But that's not the one I was talking about. The Bodyguard is about a former British army person who now is the bodyguard for the prime minister. It looks really quite politically intriguing.

Greer: OK. It's not a new show, but my favorite show on Amazon Prime, Atlanta. Donald Glover, aka Childish Gambino. It's so, so good. Season one's incredible. Season two is totally different than season one, and just spectacular. It's maybe Breaking Bad good. Maybe better than Breaking Bad.

Cross: I've only seen one or two episodes and it looks phenomenal.

Greer: It's so good. OK, desert island question. We are on a desert island. Just go with it, you know? It's my question. You're on a desert island for the next five years. You can own only one of these stocks. What are you going with? We've got Tilray, a cannabis basket, we're going to throw that in, Netflix, or Apple.

Flippen: Well, I'm going to take 100% of my assets and immediately put them into Tilray. It's down 2%, so it's an amazing buying opportunity --

I'm joking, I'm totally joking, I'm going to put that out there. Do not buy! [laughs] I don't know, I'd probably go with the marijuana basket. I love spending time looking at growth companies. The marijuana industry as a whole is a growth industry. I think if you're smart about the way you invest in this space, there's a lot of money to be made.

Cross: That's a tasty offering. I was looking at that. But I think I'm going to stick with Netflix. I own it personally. With growth rates north of 30% and the investments they're making, I think long term in this space they continue to be a winner.

Greer: OK. I'm still thinking about the Kevin Costner-Woody Harrelson combo.

Cross: It looks great. 

Greer: I love Kevin Costner in Bull Durham, but after that, I think he had some misfires. 

Cross: He definitely did. 

Greer: Tin Cup, Andy! Come on!

Cross: Yeah, yeah.

Greer: But Woody Harrelson makes everything good.

Cross: Have you seen Molly's Game?

Greer: No.

Cross: He's in there as the father of Molly. This one looks very good. They hunt down Bonnie and Clyde.

Greer: OK, I'm open to it. Andy, Emily, thanks for joining me!

Flippen: Thank you!

Cross: Thanks, Mac!

Greer: As always, people on the show may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's it for this edition of MarketFoolery. The show is mixed by Austin Morgan. I'm Mac Greer. Thanks for listening! And we will see you tomorrow!

Check out the latest earnings call transcripts for Tilray, Netflix, and Apple.