As cannabis stocks bounced back this year from their fall funk, some have bounced higher than others. Much higher. The divergence is quite striking among stocks of companies that sell marijuana in the U.S., where it is legal under the laws of some states but remains illegal under federal law. Curaleaf Holdings stock (ticker: CURA.Canada or CURLF.OTC) has doubled since December, while shares of the glamorous MedMen Enterprises (MMEN.Canada or MMNFF.OTC) have slid 15%.
Other strong gainers have been Cresco Labs (CL.Canada or CRLBF.OTC), Harvest Health & Recreation (HARV.Canada or HRVSF.OTC), Trulieve Cannabis (TRUL.Canada or TCNNF.OTC), and Green Thumb Industries (GTII.Canada or GTBIF.OTC).
Barron’s has suggested that investors tread carefully in the American weed patch. Wondering if the pot business was separating the buds from the stems, we touched base with one of the few brokerage analysts who covers American pot stocks: Robert Fagan, at Toronto’s GMP Securities. Weed’s illegality under U.S. federal law keeps the large investment banks and stock exchanges away from the stocks of America’s multistate operators—or “MSOs”—obliging the companies to list on the less liquid Canadian Securities Exchange and with the U.S. OTC Market Group. “That gives us a window of opportunity to be the ‘go to’ broker on the MSO names,” says the GMP analyst.
MedMen stock has suffered from turnover among its top executives, including a chief financial officer, a chief operating officer, and its general counsel, notes Fagan. It has put up robust revenues, but with its high operating expenses MedMen has also run big negative cash flows that it must fund with repeated financings. The Los Angeles-based chain has 23 stores up and running and will add 10 more when it closes an acquisition deal with rival PharmaCann.
MedMen isn’t among the five MSOs that Fagan covers, as it happens. But another underperforming pot stock is—that of iAnthus Capital Holdings (IAN.Canada or ITHUF.OTC). Up about 20% this year, the shares of the New York-based outfit have only kept pace with the broader market. Fagan thinks iAnthus is just underappreciated by investors. The chain has opened fewer stores and put up smaller sales numbers than some rivals. But the analyst thinks it will start hitting its stride this year.
See how U.S. marijuana companies are diverging this year in the chart below:
Fagan rates iAnthus a Buy, as he does the other names that he covers thus far. They are Curaleaf, Green Thumb, Cresco Labs and Trulieve. He sounds a bit apologetic about all the Buy ratings. It’s not that he’s easy to please, says Fagan. If his coverage was broader, he says, he might have some other ratings.
But the main reason for all the Buys, says Fagan, is his belief that the U.S. pot producers have so much upside.
“There is such a great opportunity in front of all these companies,” Fagan says, “with the potential for further liberalization of state regulations and federal legalization.”
U.S. pot stocks trade at a steep discount to those of companies like Canopy Growth (CGC) that only do business in completely legal jurisdictions like Canada. The aggregate stock market capitalization of Canada’s top 20 pot companies is about 60 billion Canadian dollars (or US$45 billion). Fagan estimates that the industry’s total sales of cannabis in Canada will be all of C$5 or C$6 billion by 2022—so Canadian pot stocks are valued at 10-times those sales.
By contrast, the top 20 U.S. pot companies have an aggregate market cap of US$30 billion. Fagan thinks U.S. cannabis sales can top US$20 billion by 2022—so the American weed industry is valued at just 1.5-times those sales. Fagan’s sales forecast includes only the currently-legal states, he notes. If additional states allow recreational sales to adults, as is likely, or if federal legalization occurs, then he thinks U.S. pot sales could triple.
Capital flows could also lift U.S. pot stocks, he says. Mutual funds and pension funds are barred from investing in the federally-illegal businesses. Those doors could open with Congressional passage of the STATES Act, a recently-proposed bill that would federally-decriminalize cannabis in those states that allow it under their own laws. Canopy Growth recently cut a deal to acquire the U.S. chain Acreage Holdings (ACRG.U.Canada or ACRGF.OTC), in the event that a law like the STATES Act passes. Other deep-pocketed Canadian or U.S. firms could do likewise, Fagan says.
That’s why he’s got all the Buy ratings. “You could see five-times upside in all these companies,” Fagan says, “regardless of their relative advantages and disadvantages.”
Write to Bil Alpert at william.alpert@barrons.com
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