The legalization of marijuana is expected to lead to one of the strongest long-term growth trends we've seen in a generation. Having registered global sales of $12.2 billion in 2018, the cannabis industry is expected to grow revenue 38% in 2019, to $16.9 billion, and practically double worldwide sales again by 2022, to more than $31 billion.
Even Wall Street is all-in on marijuana. Depending on your preferred source, Wall Street believes that the global pot industry could grow to between $50 billion and $75 billion in annual sales by the end of the next decade, which would put it near or on par with the global soda industry.
Canadian pot sales are... tumbling?
Next-big-thing investments often go through a teething period. That looks to be the case right now for the Canadian marijuana industry following the legalization of recreational weed on Oct. 17, 2018.
Each month, Statistics Canada releases retail sales data from a month-and-a-half prior. Now included in this retail sales data is cannabis stores, which are tightly regulated and therefore produce high-quality, trustworthy revenue data.
Here's a glimpse at total cannabis store revenue since the inception of legal recreational sales in mid-October through the end of February. Figures are listed in Canadian dollars (CA$), with U.S. conversion in parenthesis:
- October 2018: CA$53.68 million ($40.22 million)
- November 2018: CA$53.73 million ($40.26 million)
- December 2018: CA$57.34 million ($42.96 million)
- January 2019: CA$54.88 million ($41.12 million)
- February 2019: CA$49.89 million ($37.38 million)
What you'll note right off the bat is that Canadian cannabis sales have declined for two consecutive months now. In fact, February sales (28 days total) were lower than October, which only contained half as many days (14) in the post-legalization environment. As a whole, legal pot sales in February were 13% lower than in December, the peak month of sales in the early going.
What's more, aggregate cannabis-store sales since inception are "only" about $202 million through 4.5 months. For context, this might put Canada on track for, say, $500 million in sales for its first full year following legalization. That's a problem, considering that Wall Street has pegged the Canadian pot industry at almost $6 billion in sales by 2022.
Three supply-chain issues wreak havoc on Canadian marijuana sales
What's wrong, you ask?
The first problem can be attributed to regulatory red tape. Health Canada, which oversees the cultivation licensing and sales-permitting process, had an insane backlog of almost 840 applications (most of them for cultivation) as of January 2019. Since the first applications were given the green light more than five years ago, Health Canada has approved a mere 173 licenses, which includes cultivation, processing, and sale, through March 22, 2019. It can takes months or years to get the go-ahead to grow, harvest, process, and sell cannabis, and that's keeping supply lower than it should be in the interim.
The second supply-chain issue ties into a shortage of compliant packaging. Health Canada laid out a gauntlet of guidelines that must be adhered to if pot products are to make it onto dispensary store shelves, including that they be tamper-resistant and contain the appropriate warning labels. The issue is that there simply isn't enough compliant packaging in the early going, leaving unfinished cannabis sitting on the sidelines.
The third and final concern is that ramping up production takes years. Growers were unwilling to spend hundreds of millions of dollars on expansion projects prior to knowing that the Cannabis Act would become law. This certainty wasn't in place until about December 2017, at the earliest. With producers now scrambling to construct greenhouses and license their grow sites, supply is improving, but at a still very slow pace.
Pot stock earnings estimates could soon crater
All of Canada's recent hiccups are fixable, but they're going to take time to work out the kinks. Unfortunately, this means that marijuana stock earnings estimates look destined to fall. This decline could be especially noticeable for the highest revenue producers, as well as those pot stocks with the largest built-in premiums.
Canopy Growth (NYSE:CGC), the largest marijuana stock in the world by market cap, has been the early leader in revenue generation. In its fiscal third quarter, Canopy reported CA$97.7 in gross revenue, of which more than 90% was tied to cannabis sales.
Among the top-tier growers, few have had more of their sales tied to the recreational market than Canopy, with nearly 80% of its cannabis sales going to the adult-use market in Q3 2019. Even with ample provincial supply deals in place, Canopy Growth could be contending with just single-digit sales growth or perhaps even a gross revenue contraction in its fiscal fourth quarter.
Although it could be hurt to a lesser extent than Canopy Growth, due to its greater reliance on the medical cannabis community, Aurora Cannabis (NYSE:ACB) could see its organic sales growth slow dramatically in the upcoming fiscal third quarter. Because Aurora is an avid acquirer, Wall Street is looking for healthy expansion in sales to almost CA$90 million in Q3 2019, up from CA$62 million in gross revenue in Q2 2019. But unless Aurora dramatically boosts sales to overseas markets, its organic revenue may grow slower than expected, thereby adversely impacting its bottom line.
Even Cronos Group (NASDAQ:CRON) would be expected to take a hit, due to its built-in premium. Cronos Group reported an abysmal $4.2 million in revenue in its most recent quarter, and supply-chain issues aren't going to allow its sequential quarter to be much better. Most of the company's production isn't expected to come online until the second half of this year, leaving the third most valuable grower by market cap producing peanuts for sales. For what it's worth, Wall Street expects Cronos Group's sequential quarterly sales to be flat or decline modestly.
In other words, if you haven't already toned down your expectations for marijuana stocks, now is the time to do so.