There are as many reasons to be bullish on cannabis stocks as there are reasons to be bearish. With the full legalization of the Canadian market in October of last year, cannabis seems poised to go much more mainstream in the years ahead. The highest industry estimate from a mainstream Wall Street firm is Stifel's recent $200 billion estimate for global legal cannabis sales by 2030. That would be up roughly 13 times from the $15 billion estimated global sales for 2019!
And yet there are just as many reasons for caution on pot stocks. For one, it's still very early innings in the legal cannabis industry, and a whole host of things can go wrong. Even in Canada and legal U.S. states like California, the legacy black market is still thriving due to the higher prices on legal weed from high state taxes. That may be contributing to the oversupply in the Canadian market that has recently sent pot prices tumbling. Deepening this problem is the fact that pot companies are subject to some unique and bizarre accounting rules, which could mean that past profits may have to be written down if retail prices keep falling, in addition to current results.
Additionally, who knows when the U.S. will finally get its act together regarding national legalization? Until it does, companies have to navigate a patchwork of different state regulations, as well as the fact that U.S. companies can't ship cannabis across state lines. Many pot companies have thus made very expensive acquisitions in order to expand their reach in certain U.S. states, setting up the potential for future goodwill writedowns.
Nevertheless, if you're one of the brave ones looking to take advantage of the current skepticism in pot stocks, you might want to consider Aurora Cannabis (NYSE:ACB). Aurora is the market leader by production capacity and the most widely held stock on the investing app Robinhood, and there are a few good reasons why it sticks out among the big cannabis players.
The leading producer
Aurora has been the most successful cannabis company in growing its production capacity, with funded capacity set to reach 625,000 kg annually in the next couple years. In the company's most recent quarter, Aurora sold between 25,000 and 30,000 kg, or a little less than 20% of its full potential, so there should be massive growth in the next couple years as this capacity comes online.
But it's not just the amount of cannabis that Aurora can produce, it's how well the company executes. Aurora is a bit different from other cannabis companies in that it has its own custom, large-scale Sky facility design. Sky facilities are equipped with a glass roof and highly automated infrastructure, which allows for massive production with relatively lower labor requirements, and a highly controllable environment that limits crop loss. For instance, Aurora's older Mountain facility produces about 4,800 kg and requires about 125 people; however, the new Sky facility can produce 100,000 kg/year, or 20 times that of Mountain, but only requires 380 people, or three times Mountain's labor requirements.
Aurora is constructing two more Sky-model facilities, Aurora Sun and Aurora Nordic part two, which will be even bigger and support a combined 270,000 kg per year in production. The scale benefits from these massive facilities should send Aurora's costs below $1.00 per gram, according to management.
Best-in-class execution and being the lowest-cost producer could help Aurora outlast competitors as prices per gram come under pressure across the industry.
Validation by Peltz, Italy, and BMO
In an industry that is evolving and may be vulnerable to unscrupulous, self-dealing managers, it always helps when a company and its management team are validated by well-known third parties. In the case of Aurora, the company recently received validation from some big customers and industry players:
- Italy: In mid-July, Aurora won a tender offer to supply Italy with medical cannabis. While the contract is only for 400 kg of cannabis over two years, the win is more about what it signifies. Italy is the most tightly regulated medical cannabis market in the world, and Aurora was the only company out of five competitors to win the contract. The cannabis will come from Aurora's Canadian EU GMP certified facilities, which will be used to supply the massive German market as well. The fact that Aurora seems to be winning these competitive contracts under rigorous regulatory scrutiny bodes well for future wins too.
- Peltz on board: In March, Aurora named Nelson Peltz as a strategic advisor to the company. Peltz is an activist investor who is famous for bets on large branded consumer goods companies such as Procter & Gamble (NYSE:PG), Mondelez (NASDAQ:MDLZ), and Wendy's (NASDAQ:WEN). Aurora is the largest cannabis company that hasn't inked its own partnership with another big alcohol or cigarette company, but having Peltz on board could very well enable a similar transaction, and likely on advantageous terms. Either way, the fact that Peltz chose Aurora as his big cannabis pick is another validation for the company.
- Bank of Montreal (NYSE:BMO): Finally, Aurora also got a thumbs-up from its lenders recently, with a consortium of Tier 1 Canadian banks, led by the Bank of Montreal, agreeing to upsize the company's current credit facility from 200 million Canadian dollars to CA$360 million. The increased facility is another vote of confidence in Aurora, especially in an industry going through a difficult month and increasing skepticism.
A good bet for the longer term
Of the leading cannabis companies, Aurora sticks out as the quality and scale leader at the moment. Though its stock is a bit higher priced than some others in the space, paying up for quality is usually a good trade-off in any industry, especially a difficult, evolving one such as the cannabis market. Those seeking to play the cannabis market would be smart to give Aurora a look.