The marijuana industry is expected to grow by leaps and bounds, according to most Wall Street forecasts. Cowen Group, which happens to be the biggest green rush cheerleader on Wall Street, has projected $75 billion in global annual sales by 2030, up from a previous forecast of $50 billion by 2026.
However, this has also been an industry with far more hiccups than anyone could have imagined. Supply constraints have plagued the Canadian market since recreational marijuana sales commenced on Oct. 17, with January data from Statistics Canada showing that cannabis stores sold almost 5% less weed in January than they did in the sequential month (December 2018). Regulatory red tape along with compliant packaging shortages have made the initial launch of adult-use weed very bumpy -- and ultimately that's brought into question the valuations of most pot stocks.
Although most marijuana stocks have soared to the heavens since the beginning of 2016, there are a few that still look relatively attractive compared to their long-term growth prospects. While there's zero guarantee that I actually buy a marijuana stock, there are three pot stocks that are nearing a point where I'm seriously considering taking a nibble. Again, not a recommendation from yours truly to go out and buy these stocks, but I'm personally considering it.
Following a more than 25% tumble since reporting its fourth-quarter operating results, CannTrust Holdings (CNTTQ) is quickly rising the ranks as a marijuana stock I'd consider adding to my portfolio.
For the quarter, CannTrust delivered $16.2 million Canadian in sales, a 132% increase from the prior-year period, as its active patient count increased 57% and the amount of cannabis it sold more than quadrupled. Unfortunately, rising expenditures pushed CannTrust to a net loss of CA$0.26 per share, which was considerably wider than expected, with gross margin of a disappointing 35%.
However, the biggest question mark heading into CannTrust's recent earnings report wasn't how much cannabis it'd sell. Instead, it was what the company's production capacity would look like moving forward. After a protracted stalemate with the town of Pelham, the company received the go-ahead to expand its hydroponic-focused Niagara grow farm by 390,000 square feet in January. This adds to the 450,000 square feet already completed, but is 210,000 square feet less than CannTrust had been angling for. Investors sort of knew the company would come in around 100,000 kilos at peak output with the long-awaited phase 3 expansion approval, but figured additional production might be on the docket.
With the release of CannTrust's operating results, we learned that the company has entered into a letter of intent to acquire 200 acres of land. This land will be used for outdoor cannabis growing and yield between 100,000 kilos and 200,000 kilos a year, effectively doubling or tripling the company's peak annual output. It's unclear what the cost-per-gram might be on this outdoor production, but economies of scale should really begin to kick in at such high peak output figures.
When comparing it to its peers, no other producer with a market value of less than $1 billion remotely comes close to what CannTrust can produce annually. And, most importantly, between a third and half of its production should be coming from low-cost hydroponic grow methods at Niagara and its much smaller Vaughan campus.
With a potential turn to profitability by as soon as late 2020, I'm very intrigued.
After a rather ho-hum start to the year that's seen its share price rise by only 12%, underperforming the broader market by three percentage points, my top marijuana stock for the year, KushCo Holdings (KSHB), is looking awfully tempting.
Probably the biggest reason KushCo's stock has been running in place for the past three months is the aforementioned packaging supply issue in Canada. This company is far from the only packaging solutions provider for marijuana growers; but it is the best known. If there's cannabis that could be sold, but a lack of compliant packaging is keeping that raw and finished product from making it to dispensary store shelves, then it's a company like KushCo that's going to take the brunt of the blame. And it certainly has.
But in the grand scheme of things we're likely talking about supply chain issues that'll take between six and 24 months to work themselves out. That's not a lot of time. Also remember that no industrialized country had ever legalized marijuana before Canada, so this is a bit of a trial-and-error process for a maturing industry. Nothing in KushCo's long-term vision has been compromised by Canada's slow start.
Meanwhile, we have a company that provides both branding and marketing solutions to over 5,000 global growers, ensuring that they remain complaint with federal, state, or local cannabis laws. KushCo is really on the front line of helping these growers differentiate their products from what will soon be a very crowded field.
In addition, KushCo provides hydrocarbon gas and solvents, which are critical to the respective production of cannabis oils and concentrates. These alternative consumption methods will be legalized in Canada by this coming October, and they carry with them considerably higher margins than traditional dried cannabis flower. That, in my book, places KushCo at the center of a major portfolio diversification trend.
Currently valued at about 2.6 times Wall Street's consensus sales projection for 2020, KushCo looks ripe for the picking.
On top of picking value stocks, I also like to include growth "reaches" as a small percentage of my portfolio. Sometimes they turn out great, such as when Geron partnered with Johnson & Johnson and my investment practically doubled, and other times they are a disaster (ahem, Seadrill). Within the marijuana industry, I'm really starting to like Aleafia Health (ALEAF 5.38%) as a possible reach.
Aleafia Health recently completed its acquisition of Emblem, creating a company with approximately 40 health clinics that've treated around 60,000 patients to date. Aleafia and Emblem are also vertically integrated in that they cultivate their own cannabis and market in-house brands. The value of this model is that it focuses on higher-margin medical marijuana patients, then aims to keep these patients within their framework by promoting their in-house brand. It's a potentially unique way of boosting customer loyalty in the early going.
With the combination now complete, Aleafia Health brings up to 98,000 kilos of peak annual output to the table, with Emblem adding another 40,000 kilos. Even though it could take some time for these cultivation farms to be constructed, licensed for planting, and permitted for sale, this works out to 138,000 kilos of peak annual output for a company with a minuscule market cap of $384 million. You won't find a major grower yielding north of 100,000 kilos a year with a smaller market cap.
Arguably the biggest worry here is the duos combined cash pile of around CA$70 million. While a step-up from where both companies were separately, this may not be enough to sustain the new Aleafia Health before recurring profitability. In other words, investors seem to be factoring in the likelihood of a dilutive cash raise at some point in the future.
Also, with a share price of just $1.42, uplisting to the Nasdaq could prove impossible without a reverse split. Generally, reverse splits are frowned upon by investors and viewed as a sign of weakness.
Clearly, Aleafia Health is no sure thing to succeed. But the health clinic model is an intriguing means to "hook" patients and keep them loyal to in-house medical brands. Another 10% to 15% downside and I might have no choice but to buy a little and see what happens over the next three to five years.