We know that systemic risk cannot be mitigated through diversification and that is a basic tenet to the concept of diversification. Traditionally, hedging is the tool of choice to mitigate some systemic risk. I would like to put forth a hypothesis that investing in the legal cannabis industry may just be another and here is why.
1. We know from past articles and content (including third party), that this is not another dot-com industry because dot-com was the creation of a new industry whereas this represents the transformation of an existing black market into a legal regulated market for recreational. It is also the creation and development of a new medical market. Cannabis as medicine dates back centuries so using the word “new” is somewhat ironic if not misleading. We also know the centuries of proven success of using hemp in textiles, building materials, food, etc.
This transformation is happening faster in more progressive countries (Australia, Canada, Germany, etc) but also within the USA with states such as California, Colorado, and Nevada leading the way. As a warning and this is something we discuss often – although as referenced above this is not a dot-com industry there are facets of this industry that mirror the dot-com era and these can typically be avoided through due diligence. This includes avoiding some paid stock promoters with their paid newsletters and by steering clear of many social media characters.
2. Medical research on various components of cannabis (including hemp) continue to yield encouraging results. Not only are there signs of success across an array of diseases and conditions but the cost of cannabis tends to be lower than the cost of traditional pharmaceuticals.
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This, in my opinion, is day zero of what will be a multi-billion dollar industry that already exists (black market conversion plus alcohol
consumers converting to legal cannabis). Much like geological time, day zero may be months long. For those companies that are successful, what are those future earnings? Let’s use a real world example and to do that we need to look North at Canada.
Canopy Growth Corporation
(TSX:WEED; OTC:TWMJF) is the world’s largest legal Cannabis producer and as such I cannot think of a better example. Some recent reports suggest that Canopy will control at least 20% of the adult recreational market’s supply. The year 1 forecasted valuation of the legal adult recreational market has a lower value given of C$5-billion. It’s always nice when the math works out simple because a 20% stake of a $5B market would be C$1-Billion. At time of writing, Canopy’s market cap is C$5.5-billion. If the recreational market was indeed at the lower end of the range and never grew and if Canopy had no other revenue sources then its market cap right now would be about 5.5 X expected year 1 revenues. But here’s the thing, the base market is expected to be between C$5B and C$9B and the total initial market at C$23B. Canopy has several other revenue sources throughout the industry and currently has the largest share of the medical market. Its quarter ended December 31, 2017 indicated revenue in excess of C$20M – a year over year increase of over 100%. With a sales shift to high revenue (and profit) oils, let’s use C$100M as anticipated annual revenue from the medical side.
Canopy also has a presence in the hemp industry and that industry is expected to dwarf the legal cannabis industry. They have a strong international presence and have several ventures into segments such as: topical applications, animal care, cosmetics, beverages/edibles, medical, apparel, medical devices, etc.