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3 Things to Watch For in the Canadian Cannabis Market in 2020

By David Jagielski - Updated Mar 17, 2020 at 3:19PM

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The industry could look a whole lot different by the end of this year.

The cannabis industry is undergoing a lot of change, especially in the Canadian market. Pot stocks have been taking a beating, with the Horizons Marijuana Life Sciences ETF down more than 50% in just six months. Changes are necessary, and they're coming. Here are three of the biggest things cannabis investors should look out for in 2020:

1. A resolution to the CannTrust scandal

The turning point for the industry may well have been the illegal-growing scandal at CannTrust that first emerged in July of last year. Although pot stocks were already struggling at that point, the news definitely heightened the risk in the industry, with many investors wondering whether other companies could be in trouble as well.

HEXO (HEXO -3.73%), for example, was dragged through the mud, with one short-seller alleging that it could be the next in trouble. While nothing ended up materializing there, the risk that a pot producer is engaged in illegal activity is a significant one for investors to consider, as such news (or rumors) can cripple a stock's price without much notice. Today, CannTrust's stock price is not even $1, nowhere near the more than $9 a share it reached before the scandal hit.

Investor holding his head in his hands as a stock price falls.

Image source: Getty Images.

It's been months since Health Canada announced it was looking into CannTrust's operations, and while no end date has been specified, it's likely that investors will learn about the cannabis company's fate sometime this year. A reinstatement could revive the industry and alleviate some of the risks investors are worried about, while the opposite may have the reverse effect.

2. Mergers, acquisitions, and bankruptcies

There's no denying that cannabis companies are low on cash, and that it's only a matter of time before some of them shut down for good, are acquired, or merge with competitors. Unfortunately, bankruptcy may be the most likely scenario for many. With share prices down and having limited cash on hand, there's not a lot of room for big acquisitions in the space, especially when companies are trying to cut costs.

In one instance, a company is even reneging on a previously announced arrangement. Cannabis producer Tilray (TLRY) now faces a lawsuit after backing out of a deal to buy retailer 420 Investments for 110 million Canadian dollars in a cash-and-stock deal. After reaching an agreement back in August, Tilray apparently "had a change of heart and no longer wished to proceed with the acquisition," according to the statement of claim.

Until companies shore up their financials, there may not be much room for mergers and acquisitions to happen, but they'll undoubtedly be attractive opportunities if share prices continue to fall. In the meantime, investors should keep an eye out for more layoffs and cost-cutting, as they could be a sign of potential bankruptcies ahead.

3. How edibles will perform amid advertising obstacles

The edibles segment is up and running in Canada, but the real question for investors is how well it will do in light of heavy marketing and advertising restrictions. One of the most noticeable differences between marijuana products in Canada and the U.S. is the packaging. In Canada, there's virtually no advertising, and warning labels are all over packaging. Meanwhile, in the U.S., there's a lot more room for attractive colors and designs to catch consumers' attention. 

In Canada, this may affect sales of edibles more than sales of flower --  the attractiveness of a gummy candy or beverage may play more of a role in its popularity than it would for flower products without many visual differences. There are also restrictions on edibles' size, with Health Canada prohibiting an individual package from containing more than 10 mg of tetrahydrocannabinol (THC), which can make black-market products much more appealing

The many challenges for edible products may lead to a year of underwhelming sales, and that could be bad news for a company like OrganiGram (OGI -3.96%), which is banking on chocolate edible products to propel its sales this year.

Should investors be concerned?

Canadian pot stocks are risky buys for the reasons mentioned above. The conditions in the industry don't look great today, and until there are signs of stability, investors may want to tread very carefully and think twice about investing in a Canadian cannabis company.

Once Health Canada makes a decision on CannTrust -- and as mergers, acquisitions, and bankruptcies shrink the number of companies in the industry -- investors will have an opportunity to reevaluate which companies are investable and which are not.

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Stocks Mentioned

Tilray Stock Quote
Tilray
TLRY
OrganiGram Holdings Stock Quote
OrganiGram Holdings
OGI
$0.97 (-3.96%) $0.04
HEXO Stock Quote
HEXO
HEXO
$0.20 (-3.73%) $0.01
CannTrust Holdings Inc. Stock Quote
CannTrust Holdings Inc.
CNTTQ
$0.01 (-78.00%) $0.04

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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