…We think the marijuana industry is closer to the end than the beginning of this selloff but, adding up the potential catalysts, both positive and negative, it looks like sentiment is still solidly in the selloff category for now. Overall, however, there is more than enough potential return if investors play it safe and own the stocks with a very good chance of weathering the storm. [To that end, this article looks at 35 companies, both American and Canadian, and identifies those that have] the lowest cash burn and the deepest discount to net assets.
- Edibles roll-out in Canada will likely be delayed. Products won’t arrive until March at the earliest.
- Many companies are running out of cash.
- Vaping crisis is hurting demand.
- Canadian price-to-sales are still at 14x while U.S. MSO’s are at 4.5x which is still 180% and 50%, respectively, above the price-to-sales of alcohol, pharma and consumer cyclical industries.
- Falling retail prices make future profitability and valuations very hard to forecast, leading investors to remain cautious.
- Institutions won’t enter until they have legal cover to own cannabis stocks.
- U.S. price-to-sales down to 4.5x from 9x only 6 months ago compared to 4.3x for the S&P 500 and 3.9x for consumer cyclicals.
- World Health Organization may de-schedule cannabis in March 2020 setting off a chain reaction of banking and or countrywide legalization in the U.S.
CAPITAL PRESERVATION IS KEY
Focus on the low-risk survivors – companies with the cash to get through this capital drought and potentially even buy rivals out of bankruptcy for a song – so pick the companies with the lowest cash burn and the deepest discount to net assets. Such cashed-up companies should form the support pillars of any cannabis portfolio and should receive the majority of your cannabis investment dollars…[Indeed,] owning a cannabis stock starved for cash today is like playing Russian roulette, except in this case all but one chamber is loaded.
For those truly aggressive investors looking to push risk and return to the limit, another option is to invest in management teams who are hunkering down, waiting out the storm with valuable licenses, IP or commercial contracts intact.
U.S. YEARS OF CASH REMAINING
Source: Sedar, Sec.Gov, Grizzle Estimates. *If cash spent on investments is higher than cash flow from operations, the company can be profitable but still run out of money.
CANADA YEARS OF CASH REMAINING
Source: Sedar, Grizzle Estimates, Sec.Gov
Investing with a margin of safety is the only way to play cannabis stocks as the market works through a period of capital scarcity and investor panic. Legal cannabis remains a rapid growth, multi-billion dollar opportunity so investors should not lose hope. The night always looks darkest before the dawn.