March 27, 2017
That’s what they’re always called. Nobody ever calls them “marijuana companies” because most marijuana investors aren’t buying companies, just ticker symbols.
I am going to briefly address the hottest topic on the Canadian market right now, and you can probably already guess my stance on it. I am not going to spend a ton of time on it, but I would like to share some wise advice I once heard (paraphrased):
“If the taxi driver is talking about it, sell as fast as you can.”Dr. Peter Flynn
As many of you have probably noticed, EVERYONE is talking about pot stocks, even people who have never invested a penny in their life. People are looking to make a quick buck. And some have succeeded! But when does the profit end? And when it does end (because it will), will you be able to get out in time? The quote referenced above was in recognition of two very intelligent investors who, right before the Great Depression, (supposedly) decided to sell all their stocks when they heard their shoe shiners talking about the stock market. Now, many of you know I don’t normally advocate selling stocks, but that would be one of the few circumstances I likely would. Which brings me to my next piece of wise advice, this time from one of the greatest investors:
“Be fearful when others are greedy and greedy when others are fearful.”Warren Buffett
Okay, so enough with the cheesy quotes, what is actually so bad about investing in pot companies?
A brief BNN article was released today, mentioning just some of the concerns:
Here are some of the key quotes:
- “Attempting to value a company seeking to serve a market that does not yet exist is far from an exact science…Several leading Bay Street money managers argue little if any value can be found among marijuana producers no matter how far into the future a forecast is built.”
- “The legal marijuana business ‘will never make money as its costs are too high relative to its competitors,’ … specifically citing the black market that Ottawa is hoping legalization will eliminate.”
- “’In Canada, it is a race to the bottom in terms of the lowest cost producer will win since there can be no product brands,’… The [federal task force] report specifically suggested marijuana be sold in plain packaging with limits on advertising similar to those in place for tobacco products.”
- “’With less enforcement and less severe penalties, the illegal [marijuana] market will be even more competitive than they are now.’”
That’s just some of the macro environment concerns, but what about the financial stability of the individual companies? Let’s look specifically at Canopy Growth, a major player in the market:
- has yet to achieve positive cash flow from operations
- over the last several years, they have been issuing shares at a compound annual growth rate (CAGR) of 5.8%, effectively diluting shareholders’ returns by just as much
- every other financial metric we look for in a company is just not there and there is no consistency
- their price to sales ratio (PSR; aka share price divided by revenue per share) is 35x!!!!! To put that in comparison, the Canadian tech darling, Shopify, with some incredibly exciting prospects, is only valued at 15x, which is still an incredibly high valuation, with the market average only at 1.8x :O
- how long are investors willing to wait for a meaningful profit? when will they get antsy and start selling?
And the question must be asked, even if there was branding allowed, how would an investor have any idea which brand would succeed, and more importantly, would be a good investment? What is the industry’s barriers to entry, or economic moats as Buffett would call them? According to this CBC article, households will be allowed to grow up to 4 plants each. Hey, if I’m rolling a joint on a frequent basis, I’m growing the good stuff myself. Why would I even consider buying it from a vendor?
I mean, perhaps I just “don’t understand” the market for it. But if that’s the case, then I’m definitely making the right decision. One of our core tenets is to invest in what you know. And plus, it’s really hard to justify such an investment when I can list off 20 other companies that are undervalued right now and will more than likely provide a 10-20%+ CAGR over the long run.
If you have any comments or questions feel free to let me know! I enjoy a discussion 🙂
“We make a living by what we get. We make a life by what we give.”
Update: I have since written an honest evaluation of where I went wrong with this analysis. Check it out and let me know what you think.
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