If you thought you'd seen everything as an investor in 2020, think again.
Over the past three weeks, retail investors have ruled the roost on Wall Street and sent volatility into the stratosphere for a handful of companies. Among them are movie theater chain AMC Entertainment (AMC -3.25%) and video game and accessories retailer GameStop (GME 7.58%). This unlikely popular duo rose by more than 500% and 1,600%, respectively, in January.
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Wall Street expects AMC and GameStop will implode
The fuel behind these amazing rallies is Reddit's WallStreetBets (WSB) community chatroom. Millions of users on WSB joined forces to kick-start a short squeeze in a handful of heavily short-sold stocks. A short-seller is an investor (often a hedge fund or institutional investment firm) who benefits when the price of a stock falls. However, since gains are capped at 100% and losses are unlimited, a rapidly rising share price can effectively drive short-sellers to the exit in a hurry. Short-sellers need to buy shares in order to exit their positions, which only added fuel to an explosive situation for both AMC and GameStop.
The problem is that neither company has the tools to command such a huge gain over a short period of time.
For example, AMC Entertainment was just days away from filing for bankruptcy before it began its incredible run from under $3 to as high as $20. Even after selling stock and issuing debt to raise $917 million, AMC's future is very much in the dark. There's no clear idea of when the pandemic will end. Plus, WarnerMedia's plan to release its movies on HBO Max at the same time they hit theaters in 2021 could completely change the game for theater operators -- and not in a good way.
The same goes for GameStop, which was late in its shift to digital gaming. Historically known for its brick-and-mortar presence, GameStop has been busy closing stores in an effort to reduce costs and backpedal its way back into the profit column. It's not even clear if GameStop will remain relevant in the gaming spectrum in five years.
Because AMC and GameStop lack true growth potential, Wall Street's consensus one-year price target implies downside of 54% for AMC and 73% for GameStop.
But amazingly, Wall Street sees even more downside potential for two other stocks that have recently been the apple of retail investors' eyes.
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Sundial Growers: Implied downside of 82%
What do you get when you combine what's arguably the hottest industry on the planet (cannabis) with a flurry of retail investors looking for the next big trade? The answer is penny stock Sundial Growers (SNDL -3.38%).
Aside from the fact that it has a low share price, which has long been a lure for young investors, the attention Sundial is receiving boils down to two factors. First, Democrats now narrowly control Congress. That makes it more likely than ever that we could see cannabis reform enacted at the federal level. Until there's a clear change to the scheduling of marijuana at the federal level, Canadian licensed producers like Sundial won't enter the lucrative U.S. market.
Secondly, Sundial's management team has been extremely busy raising capital and paying off its debt. Following a series of share offerings and debt-to-equity swaps, Sundial now has approximately $610 million in cash and cash equivalents at its disposal.
Unfortunately, this capital-raising activity is precisely why Sundial Growers is such an awful investment. In just four months, the company issued more than 1 billion shares, pushing its outstanding share count to roughly 1.56 billion. Based on its $1.65 close, as of Feb. 9, this works out to a market cap of $2.5 billion for a completely unproven marijuana stock.
What's more, Sundial Gowers finds itself in the middle of a business transformation. Previously focused on wholesale cannabis, the company is shifting to higher-margin retail sales. This is going to be a multiquarter adjustment that will likely exacerbate steep losses at Sundial.
With the company now valued at 39 times projected full-year sales for 2021, perhaps it's no shock that Wall Street's one-year price target for Sundial is only $0.30. That implies downside of up to 82%.
Image source: Getty Images.
MedMen Enterprises: Implied downside of 82%
No, your eyes aren't deceiving you. After plunging into the depths of microscopic penny stock territory (its 52-week low was just $0.09), U.S. multistate cannabis operator MedMen Enterprises (MMNFF) is back from the dead. Although its $0.96 share price on Feb. 9 still leaves it firmly in penny stock territory, its $427 million market cap and 457% gain over the trailing week have clearly put it back on the map for retail investors.
Like Sundial, MedMen is benefiting from the expectation that a Democrat-led legislative branch will change cannabis laws. Even if marijuana isn't legalized at the federal level, MedMen would be a clear beneficiary if cannabis banking reform measures were introduced and signed into law. Such a measure would allow MedMen and other pot stocks to access basic banking services, such as loans and lines of credit.
But like Sundial, Wall Street isn't too keen on this rally. The meager $0.17 one-year consensus price target assigned to MedMen implies it, too, faces downside of up to 82%.
MedMen was one of a handful of marijuana stocks that was way too aggressive on the expansion and acquisition front in the early stages of the industry's growth. After announcing a $682 million all-stock deal to buy PharmaCann in 2018, MedMen had to shelve the deal a year later. Though MedMen suggested that the deal would push it into too many non-core markets, the real issue was MedMen's lack of capital.
The company's financing issues have persisted well beyond the termination of the PharmaCann buyout. In late September, the company only had $10.3 million in cash and cash equivalents, although it received financing commitments of $25.7 million in early November. Nevertheless, the company recorded an operating loss of $30.1 million in the September-ended quarter, with no clear end to sizable losses in sight.
In other words, MedMen's ability to survive is very much in doubt, and that bodes poorly for retail investors chasing this momentum.
This article represents the opinion of the writer, who may disagree with the "official" recommendation position of a Motley Fool premium advisory service. We're motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.
