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Why Canadian Pot Stocks Are Safer Than Their U.S. Counterparts in the Coronavirus Market Crash

By David Jagielski – Apr 10, 2020 at 6:30AM

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Many U.S.-based cannabis companies could be in danger of going under this year.

There's one very significant difference between the marijuana industry in Canada and the U.S.: legality. In Canada, recreational pot's been legal nationwide since Oct. 17, 2018. In the U.S., only 11 states (and the District of Columbia) have permitted recreational cannabis use -- 33 states plus D.C. allow it medically -- and it remains illegal at the federal level. And the longer the coronavirus pandemic goes on and effects businesses and the economy, the more of a potential impact it will have on cannabis companies. Here's why that can make U.S. pot stocks riskier buys than their Canadian counterparts.

Limited access to banking means low-interest loans may not be possible

In both Canada and the U.S., interest rates have been declining as a result of the coronavirus pandemic. Typically, that would be good news for companies that are looking to take out loans to fund their businesses. However, low interest rates are not going to help U.S.-based companies like Curaleaf Holdings (CURLF -0.40%) that aren't able to access the banking industry in its entirety, including being able to obtain loans. While there are banks that may do business with the cannabis industry, they often keep such deals on the quiet side to avoid drawing the ire of the federal government. In Canada, the same problem doesn't exist since pot is legal.

Obtaining low-interest loans is a potential way for companies to gain access to cash without having to issue more shares. It could offer the reprieve some businesses need to continue operating, given that it's unclear how long the coronavirus pandemic will drag on and how deeply it may impact the cannabis industry. Many businesses in other industries are in danger of shutting down, and cannabis companies were already at significant risk before the coronavirus, struggling with significant cash burn and limited cash on hand.

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On March 26, Curaleaf released its year-end results for 2019. The company reported that its cash and cash equivalents had declined sharply, from $266.6 million as of Dec. 31, 2018, to just $42.3 million by Dec. 31, 2019. Curaleaf burned through $38.3 million during the year just through its day-to-day operating activities, while investing activities, including the purchases of property, plants, and equipment, drained another $204 million.

The coronavirus outbreak is keeping people at home, and it will potentially put the world's economies into a recession. That's sure to have a negative long-term impact on the cannabis industry, and that can make these high levels of cash burn even more of a problem for pot stocks. In the past, the U.S. Congress has looked at passing the SAFE Banking Act to help give cannabis companies access to the banking system. Unfortunately, the bill is stalled in the Senate despite initially passing in the House.

The U.S. government is less likely to help during the pandemic

Not only is it more difficult to obtain loans in the U.S., but it's also less likely that the U.S. government will help Curaleaf or its peers in response to the coronavirus market crash. The government is looking to help businesses during the pandemic to ensure they stay afloat during these challenging times; President Trump signed the Coronavirus Aid, Relief, and Economic Security (CARES) Act in March, aimed at helping businesses with 500 or fewer employees. Through the act, these small businesses will be eligible to receive forgivable loans. One caveat, however, is that cannabis companies won't be among the companies eligible.

The act excludes "applicants that are engaged in illegal activity under federal, state, or local law." With marijuana still illegal at the federal level, cannabis companies will fail to get any help from the government through this act. And it may suggest that future funding may fall into the same boat.

In Canada, however, it's been a completely different story. The federal government announced in April that it will allow legal businesses to access funding through the government's business bank. To help companies manage their cash-flow needs during the coronavirus pandemic, the federal government is making 40 billion Canadian dollars available in new credit. This is separate from the loans that companies can obtain through the normal banking system, and the federal government can extend the credit to higher-risk companies as well, including those in the cannabis sector. The legality of cannabis companies in Canada ensures that they're eligible for the credit like any other Canadian business.

Why this should matter to investors

Over the past 12 months, shares of Curaleaf are down by about 60%. And that's actually not too bad given that the Horizons Marijuana Life Sciences ETF (HMLSF -3.28%) has crashed 75% during the same time period. All this underscores just how heavily pot stocks have fallen over the past year and why raising money through share issuance is far from optimal, since it can send share prices even further down.

But cash burn could potentially become even more of a problem for the industry in 2020 if there's an economic downturn and people are spending less. Cannabis companies were already struggling when things were good amid a strong bull market. Investors have yet to see how they'll do in much more challenging economic conditions. Curaleaf is one of the larger pot stocks in the U.S., and even it's not immune to these risks. And without government help, the longer the coronavirus pandemic goes on, the greater the risk U.S. cannabis companies will face.

Canadian cannabis companies will find it much easier to find support and access to cash through the banking system, and that could be the difference between surviving the coronavirus pandemic and going under. For cannabis investors looking to take advantage of lower valuations, Canadian pot stocks may be the safer buys over the long term. Pot's illegal status at the federal level may leave U.S. cannabis stocks having to fend for themselves, and that could make already risky stocks downright dangerous to hold in your portfolio.

David Jagielski has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Curaleaf Holdings, Inc. Stock Quote
Curaleaf Holdings, Inc.
CURLF
$4.94 (-0.40%) $0.02
Horizons Marijuana Life Sciences Index ETF Stock Quote
Horizons Marijuana Life Sciences Index ETF
HMLSF
$4.45 (-3.28%) $0.15

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