Crop failures, bankruptcies and U.S. competition: Why 2019 could be a complicated year for cannabis investors

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Crop failures, bankruptcies and U.S. competition: Why 2019 could be a complicated year for cannabis investors

Cannabis was one of the biggest investing stories of 2018, as the promise of legalization of recreational weed in Canada attracted billions of dollars of from both sides of the border, driving company valuations to levels that had been unfathomable just a year ago. But as we head into 2019, the landscape for investors is changing rapidly. While there are new opportunities — think edibles in Canada and the creeping legalization in the U.S. — there are also bigger risks, as companies must now deliver on their sky high valuations. Amid that uncertainty, the Financial Post asked four experts to share their outlooks for cannabis investing in 2019. Answers have been edited for clarity and space.

Matthew Nordgren, CEO and founder of the Arcadian Fund

What do you see as the biggest investing theme for the cannabis sector in 2019?

I think 75 per cent of the big stocks are going to underperform in 2019 because they’re overvalued. I would just stick with the big three because the market will move with them. Retail and institutional buyers like those small mid caps and the market thrives on that so I think the market goes back to where it’s always had success — and that’s where you’ve got to focus.

What company is poised to become the next market darling in the cannabis industry?

I think iAnthus Capital Holdings Inc., which has a similar footprint to the MedMen Enterprises and Green Thumb Industries of the world, has significantly lower valuation and that’s one of the reasons their stock has performed better than (almost) anyone else’s over 2018.

What ancillary company do you think stands to benefit the most from an expanded market in 2019? 

KushCo Holdings Inc., is, I think, really exciting. I can see an uplisting (it currently trades over the counter in the U.S.) at some point. When that happens, the institutional guys will be more on board than they already are and Kush has an opportunity to go out and consolidate in a major way.”

There’s a lot of jockeying for position in the U.S. What company is best positioned to take advantage of the expansion of a legal market there?

I actually think it probably hurts the Canadian retail cultivation manufacturer companies and the reason is because their growth has been through other markets. I do think it helps the Medmens, the Acreage Holdings, the iAnthuses of the world tremendously here. Those guys are going to continue to get bigger and open up new places throughout the U.S. and buy existing ones.

What’s the one story investors aren’t talking about yet that they will be in 2019? 

I think people aren’t talking enough about what institutional buyers are doing. If you’re an institutional buyer, you may think the cannabis industry is going to continue to grow in 2019, but how can you put big dollars to work? Well, you can’t do it illegally so now all of a sudden these ancillary companies have becomes the focus. I think the big dollars start to look in the U.S. and I think they end up investing in companies they have less risk with.

You have $1 million to invest in 2019. Pick a cannabis stock.

If I’m in Canada and I have to buy in Canada, of course I buy Canopy. It’s the same reason you buy Amazon.com Inc. The whole market moves one way or another and Canopy is going to go up and down with it.

Charles Taerk, president of Faircourt Asset Management, portfolio manager to the Ninepoint Alternative Health Fund

What do you see as the biggest investing theme for the cannabis sector in 2019?

What we started to see in 2018 was a rising tide carried all boats and the market was very much trading in lockstep. Each time there was a major announcement for one company, generally all the names reacted to that news. Each announcement is now being more individually monitored and so you’re starting to see companies traded generally more based on their own results relative to general market sentiment. Earnings are going to matter, to put it lightly.

What company is poised to become the next market darling in the cannabis industry?

We like CannTrust Holdings. It’s a larger company in Canada and is going to be listed in the U.S. Right now, it’s trading at around 10 times 2020 earnings and has production capacity, current production that is in the Top five and yet it’s not in the Top five in terms of market cap. We’re looking at undervalued situations.

What ancillary company do you think stands to benefit the most from an expanded market in 2019? 

The company we have invested in is Molecular Science Corp. Third-party labs increasingly will be called upon to be an outsourced quality control group for smaller growers. Molecular Science has a mobile lab and they drive around Southern Ontario visiting different facilities available to do in-process testing. If you wait until the end, that’s when plants are susceptible to pests and mould. It’s also anticipated that the company will go public in early 2019.

There’s a lot of jockeying for position in the U.S. What company is best positioned to take advantage of the expansion of a legal market there?

When cultivation costs must be reduced, Village Farms International Inc., with 30 years in fruit and vegetables within a framework of NAFTA have learned to be a low-cost producer. They have greenhouses in Texas and with the legalization of hemp, which should be coming in 2019, could take their facilities — they have 5 million square feet — and convert a million square feet to grow hemp. They could immediately be a significant producer of cultivation in the U.S.

What’s the one story investors aren’t talking about yet that they will be in 2019? 

On the science side, will cultivation be the only way to extract the active pharmaceutical ingredient out of cannabis plants (CBD)? Already companies are beginning to focus on biofermentation. For those companies that do get into it, it will lower their cost of operations significantly and then a ripple effect will be: Do all these Canadians LPs need all this cultivation? I think you’re going to see, medium-term, people start to realize, well, maybe, we don’t need 140 licensed producers in this country.

You have $1 million to invest in 2019. Pick a cannabis stock.

If I had a million dollars right now, I’d probably put it into OrganiGram Holdings. They are an indoor grower, they have the lowest cost per gram from their most recent quarterly statements — they’re at 80 cents a gram — and they’re a below cost producer. They’re trading under $1 billion market cap and yet they’re also in the Top five in terms of current capacity.

Greg Taylor, portfolio manager with Purpose Investments and active manager of the Purpose Marijuana Opportunity Fund

What do you see as the biggest investing theme for the cannabis sector in 2019?

I think the big thing in the Canadian sector is we’re finally going to separate the winners from the losers. We’ve had a number of years where people have been able to throw up business plans and get financed on the hopes and dreams of what they’ve been able to do. I think now that it’s legal, we’re going to find out who are the guys that can actually deliver.

What company is poised to become the next market darling in the cannabis industry?

The one I want to watch for next year is probably Fire and Flower Inc. Fire and Flower are a private firm and they haven’t decided when they’re going public yet. They’re a fully retail storefront starting in the west and coming to Ontario and I think if they can secure the locations, which I believe they can in the Ontario market, then they could be a fairly big player in the retail space.

What ancillary company do you think stands to benefit the most from an expanded market in 2019? 

There seems to be a lot of guys trying to move their business toward being in ancillary companies in the industry. I haven’t seen a really big leader come out of it yet. Certainly there’s a number of extraction companies that are out there but at the end of the day it’s hard to figure out how much value they’re adding.

There’s a lot of jockeying for position in the U.S. What company is best positioned to take advantage of the expansion of a legal market there?

I think Acreage Holdings is interesting because they’ve got a fairly good backing out in the Western U.S. and I think it’s going to move towards the east. They also have the backing of (former speaker of the Republican Party in the House of Representatives) John Boehner. I think it does a lot to advance the cause within the old Republican establishment and if anything, is going to help get legislation passed and really legitimize the space.

What’s the one story investors aren’t talking about yet that they will be in 2019? 

If you’re going to be a company that doesn’t have the ability to deliver on what they said they would and don’t have a supply contract with one of the provinces, I think you would see bankruptcies in this space. That could catch a lot of people off-guard — that not everyone’s going to win. If the U.S. surprises everyone and goes legal a lot faster, you have to wonder how the Canadian companies do in that environment because once the Americans open and dominate and can finance the industry, they tend to win.

You have $1 million to invest in 2019. Pick a cannabis stock.

In Canada, I would probably go with Organigram because it feels like they are the most ready to deliver supply to what they said they could. With that, I think they’re going to be in a position where some of the big guys, they stumble, and Organigram’s multiple hasn’t gone up much, then those companies will start making an acquisition approach towards Organigram.

Bruce Campbell, founder of Stonecastle Investment Inc., manager of StoneCastle Cannabis Growth Fund

What do you see as the biggest investing theme for the cannabis sector in 2019?

I think a big theme will be the U.S. and the potential for either a descheduling or a decriminalization of the drug from the national perspective which would then lead to a new class of investor, who hasn’t invested in the sector, investing in the sector.

What company is poised to become the next market darling in the cannabis industry?

Cannex Capital Group is one of the top two processors in Washington State. They have the expertise operating already and they’ve been very efficient. Their production per square foot is higher than anyone in Canada and I think they could go in and buy existing facilities to get licences in several states and then apply some of their best practices tor really accelerate things.

What ancillary company do you think stands to benefit the most from an expanded market in 2019? 

One that’s in the process of going public is a company called Innovate Phytotechnologies Inc. and it’s one I would definitely watch. They’re in the testing area so as all these extracted products get regulated in 2019, there’s going to be a huge amount of testing and compliance that needs to be done. It’s going public in the first quarter of 2019.

There’s a lot of jockeying for position in the U.S. What company is best positioned to take advantage of the expansion of a legal market there?

Cresco Labs LLC are one of the U.S. multi-state operators and these guys have done a phenomenal job of building their company to date with limited capital. They’re really treating (themselves) as a consumer packaged good company and a brand company versus an LP. They’re just raising some capital now and they’re going to be going public and that will give them access to some new markets.

What’s the one story investors aren’t talking about yet that they will be in 2019? 

You’re going to see cost overrun and delay and that’s going to range from the largest to the smallest companies and you’re probably going to see whole facility crop failures. There’s going to be more evidence of how difficult it is to grow quality and meet Health Canada’s guidelines at scale.

You have $1 million to invest in 2019. Pick a cannabis stock.

I think if I could only buy one it would be Originhouse (CannaRoyalty Corp). They have distribution and in California you either have to have a distribution licence or use someone who does. If you’re a dispensary you’re not going to want to deal with 300 different suppliers. (Distribution) is going to be difficult to get into because somebody is going to have all the brands tied up and that’s what Originhouse is doing. They’re probably going to be one of the few (cannabis companies) that is cash flow positive by early part of second half of 2019.

Email: vferreira@nationalpost.com | Twitter:

Published at Tue, 11 Dec 2018 14:30:23 +0000

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