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Why Marijuana Legalization Won't Solve the Industry's Problems

By David Jagielski - May 2, 2020 at 9:07AM

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It's not going to turn bad stocks into good investments.

Marijuana's illegal federally in the U.S., and that's a big problem. It makes it difficult for companies to gain access to the banking system, and pot can't travel across state lines, even if it's between two states that have legalized marijuana. There's no denying legalizing pot could lead to significant opportunities in the industry, but it won't be a band-aid solution for all of its problems, and here's why.

A lack of legalization hasn't prevented companies from posting profits

One of the biggest knocks on cannabis companies is that they're just not profitable. But that has much more to do with a company's management than with whether it can sell across the country. There are marijuana companies in both Canada and the U.S. that have posted profits in the past year.

The reason companies aren't posting profits is because they're simply being too aggressive. Much of the excitement in the industry has centered around growth, and companies have responded by expanding into many different markets. Acreage Holdings (ACRGF) is among the largest multistate operators in the country, with a presence in 20 states (which includes pending acquisitions). The company's been aggressive in its expansion, and in 2019 its revenue of $74 million was more than triple the $21 million that it generated in the previous year. And although its net loss for the year of $150 million was an improvement from $206 million the year before, the company is still nowhere near breaking even -- despite all that revenue growth.

Cannabis greenhouse.

Image source: Getty Images.

Curaleaf Holdings (CURLF 1.24%) is another large cannabis operator, with operations in 17 U.S. states. In 2019, its sales reached $221 million, about three times the previous year's $77 million. But despite all its sales growth, the company's finished deeper in the red. Its loss of $67 million in 2019 was 19% higher than the $56 million loss Curaleaf incurred in the previous year.

In contrast, Trulieve Cannabis (TCNNF 1.23%) -- which focuses heavily on a lucrative Florida market -- has had no trouble posting a profit. The company's financials have been in the black in each of the past six quarters. And prior to ramping up its growth and expansion, Charlotte's Web (CWBHF 5.37%) was consistently profitable as well, never failing to break even in any of its eight previous quarters.

Other industries are still likely to remain on the fence

Another problem is that other industries are still hesitant to get involved with marijuana, and this attitude can keep pot stocks from growing and becoming more stable investments. Companies from other industries have dipped their toes in, with the most notable being Constellation Brands's (STZ 1.62%) $4 billion investment in Canopy Growth (CGC 4.76%), but bigger fish have stayed away That isn't necessarily because pot is illegal -- it's more that it may be bad for the brand.

When Starbucks (SBUX 1.19%) said it wasn't interested in cannabis in 2018, it wasn't because of the illegality of pot in the United States. CEO Kevin Johnson told BNN Bloomberg that he believed cannabis didn't add to the company's value and that it wasn't what the Starbucks brand stood for. Warren Buffett and Charlie Munger suggested the same thing when discussing Coca-Cola (KO 0.76%) possibly getting involved with the industry -- cannabis just wouldn't be a fit for the company's image.

However, attitudes on cannabis are changing. Data from the Pew Research Center showed that in 2019, 67% of Americans were in favor of legalizing pot. That's up from 52% five years earlier.  But the percentage that would actually compel companies like Starbucks or Coca-Cola to get into the cannabis industry is a big question mark. Even one-third of the population is still a significant number of people who aren't on board with legalization just yet. It may be well after legalization before many businesses warm up to the idea of getting involved with marijuana.

What does this mean for investors?

It's important to consider long-term growth when investing in stocks, but that doesn't mean that what happens in the short term is irrelevant. Legalization of marijuana may not happen in the U.S. for several years. And many cannabis companies won't be around long enough to see that day come. It's important for investors to balance out both the short and the long term. After all, a company's long-term prospects will be irrelevant if it can't survive the next year.

Legalization will help open up more opportunities for pot stocks, but companies will still need to be in good positions to take advantage of those opportunities in the first place. That's why investing in a good, well-managed pot stock could be key to having not just a solid investment for the near future, but one that can also capitalize on the growth opportunities that may exist years from now.

David Jagielski has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Constellation Brands and Starbucks. The Motley Fool recommends Charlotte's Web. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Curaleaf Holdings, Inc. Stock Quote
Curaleaf Holdings, Inc.
$6.05 (1.24%) $0.07
Acreage Holdings, Inc. Stock Quote
Acreage Holdings, Inc.
Starbucks Corporation Stock Quote
Starbucks Corporation
$88.31 (1.19%) $1.04
The Coca-Cola Company Stock Quote
The Coca-Cola Company
$63.70 (0.76%) $0.48
Constellation Brands, Inc. Stock Quote
Constellation Brands, Inc.
$243.73 (1.62%) $3.89
Canopy Growth Stock Quote
Canopy Growth
$3.30 (4.76%) $0.15
Trulieve Cannabis Stock Quote
Trulieve Cannabis
$13.15 (1.23%) $0.16
Charlotte's Web Holdings, Inc. Stock Quote
Charlotte's Web Holdings, Inc.
$0.64 (5.37%) $0.03

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

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