Even though the cannabis business has been around for a very long time, at least in illicit form, investors may forget that marijuana is still a nascent industry. There is no precedent to draw upon of an industrialized country legalizing weed, which means there’s been a learning curve for investors, the companies involved, and even Wall Street since Canada allowed the recreational use of marijuana.
Over the past year, a number of Wall Street investment firms have begun throwing their hats in the ring on the cannabis industry, though many have done so cautiously. This past week, Ladenburg Thalmann became the latest Wall Street firm to initiate coverage on the cannabis industry. In total, covering analyst Glenn Mattson started three pot stocks with a buy rating…
Perhaps one of the biggest surprises is Mattson’s and his firm’s conviction that Canopy Growth (NYSE:CGC), the largest marijuana stock in the world by market cap, is a buy. Ladenburg Thalmann started Canopy with a $50 target, which implies upside of more than 40% from current levels.
What impressed Mattson and his team about Canopy Growth is the company’s aggressive and well-defined push into the U.S. market, as well as its bountiful balance sheet, which is supported by billions of dollars in cash as a result of a large equity investment from Modelo and Corona beer maker Constellation Brands that closed in November. This cash balance gives Canopy more financial flexibility than any other pot stock to execute on its long-term business strategy and expansion.
As you may know, Canopy Growth was awarded a hemp-processing license in New York state in January, acquired Colorado-based cannabis and hemp intellectual property company ebbu in November, and has the contingent rights to acquire multistate operator Acreage Holdings (NASDAQOTH:ACRGF) for $3.4 billion if the U.S. federal government legalizes marijuana.
What makes this buy rating so surprising is that it comes less than a month after Canopy Growth reported a whopping 670 million Canadian dollar net loss for fiscal 2019, and two weeks after visionary co-CEO Bruce Linton was fired. With profitability perhaps two or more years off, Mattson’s take on Canopy appears aggressive, at least in the near-to-intermediate term.
Perhaps it comes as little surprise that Ladenburg Thalmann also views Acreage Holdings as a buy, with a price target of $18, representing upside of more than 30% from current levels.
The thesis here is twofold. First, Mattson’s research note to clients points out that Acreage Holdings has a “solid position” in the U.S. to take advantage of the budding cannabis industry. Right now, Acreage has a cultivation, processing, and/or sales presence in 20 states (on a pro forma basis), which is more than any other vertically integrated dispensary operator. It also holds close to 90 retail licenses, placing it among the top five in the U.S. in terms of dispensaries that can eventually be opened.
The second reason to buy, according to Mattson, is that Acreage Holdings is trading at a significant discount to its share-based conversion if the contingent deal with Canopy Growth were to come to fruition. Acreage shareholders get $300 million in up-front cash as part of that deal, with the remainder being funded with Canopy’s stock. Ladenburg Thalmann implies that there’s a good chance of legalization occurring within the 90-month window of the contingent-rights offer.
Although legalization is a very real possibility in the U.S. over the next seven-plus years, it’s not a strong possibility before 2021 with Republicans controlling the Senate. Furthermore, even with robust sales growth potential, profit projections for Acreage have been declining for 2019 and 2020 as high tax rates in the U.S. fuel a persistent black market…
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