Pot Stocks: How to Pick the Pandemic Survivors
Only the fittest stocks will survive the Darwinian marijuana sector, a competitive struggle made only more brutal by the coronavirus pandemic. Below, I outline a few basic qualities to look for among cannabis companies when trying to sort the gems from the dross.
In late 2019 in the marijuana industry, frothy valuations combined with poor cash flow and weak profits sent pot stock prices crashing to earth. That was before the coronavirus outbreak, which is both helping and hurting pot companies.
The pandemic is benefiting many marijuana companies, as states and localities deem them “essential services” and consumers stockpile weed. But the virus-induced slowdown in the broader economy also hurts weaker marijuana firms that have been suffering a cash crunch.
A company’s ability to create value for shareholders is determined by its ability to generate positive cash flows. Many marijuana companies are running out of cash. During the COVID-19 crisis, there’s even less access to capital for small companies, especially cannabis ones.
Pending federal legislation seeks to expedite the access of marijuana companies to capital markets, but until it passes, most banks are reluctant to lend to marijuana enterprises because pot remains illegal at the federal level in the U.S. Bankers are worried about unforeseen liabilities.
Lenders are by nature conservative and they fear a potential legal backlash against pot. The recent correction in share prices has exacerbated this caution. As bankruptcy looms for vulnerable canna-businesses, investors are trying to pinpoint the survivors.
Reaping profits, minimizing risks…
Finding growth with safety is a tough feat in the volatile marijuana sector. The qualities to look for include sufficient cash on hand, volume of marijuana inventory, access to desirable retail outlets, and the ability to create branded marijuana products.
The companies destined to fail are burning through their cash, making dubious acquisitions, and carrying too much debt. These shortcomings describe the majority of marijuana businesses, which makes careful stock selection all the more important.
Don’t get me wrong: There’s ample reason for investors to be bullish about small, fledgling marijuana companies. In fact, small-cap stocks will offer the most explosive gains in the marijuana industry.
Not only do these entrepreneurial companies give investors opportunities to get in at bargain prices and speculate on skyrocketing cannabis success, but they also make great takeover targets for Big Pharma companies striving to break into this still-young industry.
But when looking for marijuana investments, stick to quality. Emphasize growing revenue, actual profits, experienced management, and a solid balance sheet. Positive cash flow is crucial. Here’s a snapshot of the cash reserves of major marijuana companies:
The coronavirus crisis of 2020 will prove a crucible for all industries and marijuana is no exception. Many weak marijuana companies this year will go bankrupt and disappear altogether. Other companies that provide a valuable product or service but lack a competitive edge will get acquired. We’re already seeing a flurry of merger and acquisition activity among marijuana companies.
Avoid companies that provide the marijuana plant as just a commodity. Growing a marijuana plant isn’t a unique capability. Those firms involved in tasks that are easily replicated will suffer from “commoditization” and a downward pressure on prices. The most profitable companies in the marijuana industry will be those that develop a proprietary technology that they can patent.
Bet on the disruptors…
It’s a cycle we’ve seen inevitably unfold in countless other industries. The spoils go to the innovators with breakthrough technologies that disrupt the status quo. The future of marijuana belongs to the disruptors.
Hence the race for what I call “Cannabis 2.0.” Many pharmaceutical companies, large and small, are currently researching and developing ways to synthesize cannabis for medical and recreational purposes.
Synthetic marijuana is chemically identical to the plant-based variety, but the synthetic version confers enormous scientific and commercial advantages.
The same principle applies to dispensaries. The marijuana retail dispensary market is attractive but it’s getting more competitive, as cannabis becomes a legal and routinely available product.
Marijuana has gone from counter-culture to consumer culture. The strongest retail dispensaries will be those that are cobbling together vertically integrated operations, from growing the plant, to producing a “value add,” to marketing branded products via store fronts.
These are just a few of the general guidelines that we use to pick winning marijuana stocks. For details on the best pot plays now, click here.
John Persinos is the editor-in-chief of Marijuana Investing Daily. Send your questions and comments about pot stocks to: firstname.lastname@example.org