Top 10 Canadian Cannabis Stocks to Watch in 2019

 
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On June 19, 2018, the Canadian Senate passed a bill to legalize recreational use of marijuana and the effective legalization date was announced by the Prime Minister as October 17, 2018.

Canada became the second country after Uruguay to legalize the drug.

From that date, under the Cannabis Act, persons of age 18 or older are allowed to possess up to 30 g of dried cannabis in public. Adults may also make cannabis-infused food and drinks so long as organic solvents are not used to create concentrated products. Individual Canadian provinces are able to set their own procedures for retail sales, and there is considerable variation from province to province.

However, all allow online sales of the drug.

Restrictive regulations and permitting backlogs (Cannabis 1.0)

Currently, the Canadian pot industry is suffering from a backlog in licensing, lab testing, and a severe shortage of dried flower. Over 600 licensing applications were pending with Health Canada, the country's cannabis regulator, as at end-March 2019.

Effective last month, Health Canada changed the cannabis licensing requirements. Applicants for cannabis cultivation, processing or sales licenses must have a fully built site before they apply. This is likely to worsen Canada's pot scarcity.

A shortage of packaging that is compliant with the 2018 labeling, warning, and safety requirements also means a lot of pot can't flow into the market as quickly as previously estimated.

Consumer variations to soon become legal (Cannabis 2.0)

With effect from October 17, 2019, Canada will add edibles, extracts and topicals to the list of legal cannabis products. These products are likely to produce more remunerative margins and stimulate demand for the cannabis industry. These products may be more profitable than the dried flower, oil and seeds lines of business.

According to a report from Deloitte, this market will eventually be worth a solid C$2.7 billion. Deloitte estimates that roughly C$1.6 billion will be spent on edibles in Canada, followed by cannabis-infused beverages at C$529 million and topicals at C$174 million. Spending on concentrates, tinctures and capsules will aggregate about C$370 million.

However, in the absence of detailed regulations, producers are unable to take decisive steps to exploit this new market. Instead, they are opting to hold marijuana stocks to make profits any which way they can once the regulations are finalized and published.

Cannabis: Canada shot itself in the foot

The current restrictive environment, both legislative and on marketing and branding, for the Canadian cannabis industry has enabled the USA to assume the lead. By one view, Canada lost the chance to become the global cannabis leader. Whereas in US states such as California cannabis can be branded and even home-delivered, in Canada it is restricted to dried flower and oils.

Not surprisingly, Canadian pot sales have been well below the euphoric estimates for the industry. Until March 2019, aggregate sales have been just US$247.11 million, and therefore will likely not exceed US$600 million for the first 12 months post-legalization.

This is slow going when juxtaposed against annual Canadian pot sales estimates in the range of US$5 billion to US$6 billion by 2022.

Teething troubles, but longer term, the future is bright

The Canadian pot industry has been strait-jacketed by teething troubles as mentioned above but these are likely to streamline in the future.

The key factors to keep in mind are:

  • Recent licensing law amendment that require a built facility in place as an eligibility-to-apply precondition will keep out mom-and-pop and fly-by-night operators

  • The proposed addition of edibles, extracts and topicals to the permitted list will expand the profitability horizon of the industry players

  • There will likely be a rapid consolidation of the industry, and big listed companies will acquire marginal players

  • The companies left standing will serve the Canadian and US marijuana markets

  • The US market will receive a huge fillip if efforts to legalize weed at the federal level succeed.

  • Canadian companies will also be able to address burgeoning international markets such as in Asia and Germany.

  • According to Euromonitor International, the global cannabis market, both legal and illicit, is currently worth US$150 billion today. From 2018 to 2025, legal cannabis is estimated to grow more than 2,000 percent globally, compared to alcoholic drinks at 1.4 percent and tobacco at 1.2 percent. By 2025, legal cannabis will represent 77 percent of the global market.

“Within 10 years, cannabis will be a regular part of daily routines,” says Zora Milenkovic, head of drinks and tobacco at Euromonitor International. “From a functional ingredient to an intoxicating buzz, cannabis will reshape fast-moving consumer goods, with food, beverages, beauty, health and tobacco having the most potential for disruption.”

Top Canadian weed stock picks for 2-3 years investment horizon

1. Canopy Growth (NYSE: CGC) @ US$ 42.19

Canopy is the Canadian industry leader in marijuana. It is the best financed pot play and has a tie-up with Constellation Brands, a holder of a 40% stake in the company.

With a view to obtain a foothold in the supremely strategic US cannabis market, the company acquired Acreage Holdings Inc., a US multi-state operator, in a $3.4 billion deal announced April 18. The transaction will be triggered in the event cannabis becomes federally permissible in the US.

Analyst Andrew Carter at investment bankers Stifel has initiated coverage on the company with a Buy rating and a price target of C$64.

Canopy has a market cap of $14.56B and does not pay a dividend.

The stock price is faring much better than peers in the sector. Over the past year, the median share price fell 13.2% while Canopy's has risen 39.38%.

The company will release its fourth-quarter and full-year results for fiscal 2019 after the market closes on Thursday, June 20. The numbers could move the needle for both the stock and the sector.

2. Aurora Cannabis (NYSE:ACB) @ US$ 7.64

Aurora is the Canadian cannabis company with the largest potential production capacity, and is focused on medical marijuana.

Aurora has a market cap of US$8.06B, and does not pay any dividends.

For the quarter ended March 2019, Aurora reported EPS of -$0.08 which missed by -$0.05 and revenue of $48.38M which too missed by $1.94M but was up 289.20% year on year.

Active registered medical patients were 77,136, up 69% year-on-year. Quarterly production was 15,590 kgs, up 1,193% year on year.

Analysts at Stifel have a Hold rating on the company and a price target of US$7.48, and have expressed concerns about the company's repeated forays into the markets via capital raisings. Stifel are also apprehensive that Aurora does not yet have a strategy in place for entering the US market, and that global growth projections for marijuana may have been too optimistic.

3. Cronos Group (NASDAQ: CRON) @ US$15.94

With a production capacity of 117,500 kilos, Cronos is one of the smaller Canadian weed producers. However, its market cap is US$ 5.31B, the third highest on this list.

Last week, the company made public its "aggressive" intention to enter the US market not "that long of a way out."

Analyst Christopher Carey at Bank of America Merrill Lynch promptly upped his rating from Underperform to Buy and a price target of US$20 - which was boosted from US$13.

The Altria Group announced December 2018 its purchase of a 45% stake in Cronos for about $1.8B. Warrants in the deal will enable Altria to hike its stake to 55%. Unsurprisingly, Cronos shares doubled soon after the deal.

This is a big ticket partnership that can prove highly beneficial for Cronos in the future, particularly when marijuana is federally made legal in the US.

4. Aphria (NYSE: APHA) @US$7.27

Fourth on this list is Aphria Inc with a market cap of US$1.83B, and a production capacity of 255,000 kgs.

Last month, analyst Owen Bennett at Jefferies said the stock could be re-rated by the market after a recent scandal. Giving it a price target of US$11, Owen commenced his views on the stock with a buy rating.

“On our strategic scorecard Aphria scores highly, and third overall behind only Canopy and Aurora,” Bennett said. “Despite its strong global outlook, its valuation is the cheapest across our space, with allegations around inflated assets/insider deals weighing.”

June 7, Aphria announced it was among four Canadian growers to partner with San Francisco-based PAX Labs for cannabis vape products.

The expected legalization of vapes and concentrates will mark a significant turning point in the Canadian cannabis market, according to the company.

For the fiscal 3rd quarter ended February 2019, Aphria missed on both EPS and revenue and reported a net loss of $50.2M excluding non-cash impairment charges.

5. HEXO (NYSEMKT: HEXO) @ US$6.43

Hexo has a market cap of US$1.65B and a production capacity of 150,000 kgs.

Pre-merger with Newstrike, it supplied only to four Canadian provinces, the largest of which is Quebec.

The company's partnership with Molson Coors Canada, named Truss Beverages, will enable it to  address the market for cannabis-infused drinks, a market that could soon be worth US$3B.

In March, Hexo announced its acquisition of  Newstrike Brands Ltd for $263 million. Taken together, the merged companies have supply agreements with 8 provinces, including Ontario, Quebec, British Columbia, Alberta, Saskatchewan, Manitoba, Nova Scotia, and Prince Edward Island.

Hexo's products now have a pan-Canadian reach. The company is targeting over $400 million in net revenue in 2020.

6. OrganiGram Holdings (NASDAQ: OGI) @ US$7.26

With a market cap of US$1.11B, Organigram has a production capacity of 113,000 kgs. It has a presence in both recreational and medical marijuana, though the former generates the larger proportion of the company's revenues.

For the last reported quarter, FQ2 Organigram reported EPS of US$-0.04 missed estimates by US$-0.05 and revenue of US$20.14M (up 600.21% year-on-year) beat by $2.48M. It is reputed to be a low-cost marijuana producer.

End-May, Organigram reported that it had shipped more than one hundred and thirty thousand units of pure cannabidiol (CBD) oil destined for markets across Canada. The company has supply tie-ups with all 10 Canadian provinces.

The company is another of the four companies selected to provide cannabis products by PAX Labs for its PAX Era oil vaporizier. The deal sets up Organigram for the new market for cannabis-infused edibles and derivative products expected to become legal later this year.

In another deal, which targets the international market, Organigram last year agreed to acquire up to 25 per cent of alpha-cannabis Pharma GmbH located in Stadthagen, Germany. The German medical cannabis market is rapidly becoming one of the largest markets for medical cannabis in the world.  Additionally, the German market is a strategic base for supplying to other European markets.

7. CannTrust Holdings (NYSE: CTST) @ US$5.25

CannTrust has a market cap of US$741.07M and a potential production capacity of between 200,000 to 300,000 kilos.

It recently completed an equity offering raising gross proceeds of US$170 million excluding the over-allotment option.

It has a leadership position in the sale of cannabis oil in Canada, and a nearly 30% share in the medical segment. Between December 31, 2018, and March 31, 2019, the number of its patients grew 19% from 58,000 to 68,000.

The company also was able to conclude a supply LOI with Quebec, and has now tied-up with all 10 Canadian provinces, potentially serving 99% of the country's population.

The company has a partnership with Apotex, the largest Canadian-owned generic pharmaceutical company. The two companies are developing medical cannabis products.

In Europe, CannTrust has a partnership with Denmark-based licensed producer Stenocare. The latter is helping CannTrust in growing, distribution and product development in the EU.

8. The Green Organic Dutchman (NASDAQOTH: TGODF) @ US$2.69

The company has a market cap of US$735.36M and a potential production capacity of 219,000 kgs.

It specializes in premium certified organic and sustainably grown cannabis. This line of production is likely to generate outsized margins when production capacity is ramped up and made operational.

Given that the company is in investment mode and building out its production facilities, the financial numbers are not material as of now.

What's interesting is that the almost all of the company's revenue in the first quarter of 2019 was accounted by HemPoland, the company's European acquisition. HemPoland is helping set up the distribution of Green Organic Dutchman's hemp-derived CBD products across Europe.

The company also said on its conference call that in January, it entered into agreement with Knud Jepsen in Denmark to establish two joint ventures. The first JV will produce cannabis and cannabis oils for the Danish market while the second one is to develop and patent lead cannabis genetics for the company globally.

Last month the company also co-founded and strategically invested in Califormulations to expedite the U.S. launch of its branded organic hemp-based CBD beverages, local laws and regulations permitting. The investment is alongside that of Symrise, which is one of the world's leading flavor, scent and nutrition ingredient providers.

9. Aleafia Health (OTCQX: ALEAF) @ US$0.99

This marijuana company has a market cap of US$273.09M and a peak production capacity of 138,000 kgs.

For its first quarter 2019, Aleafia was able to grow revenue by 1,723% over the previous period.

In the previous quarter, Aleafia acquired Emblem Corp, creating Canada’s largest medical cannabis clinic with more than 60,000 patients and having access to unique cannabis oils, capsules and sprays.

“Emblem’s product leadership in the medical and adult-use sectors and highly coveted supply agreements will perfectly complement our cannabis production and clinic operations,” said Aleafia Health CEO Geoffrey Benic in the announcement of the transaction.

On June 7, 2019, the Company's wholly-owned subsidiary Aleafia Farms Inc., was granted a new Standard Cultivation License by Health Canada at the Company's Port Perry facility. The company claimed this license brought into reality the objective to cultivate cannabis outdoors at low costs, expanded its total cultivation footprint and ensured a dependable supply for its patient base.

10. Zenabis Global (NASDAQOTH: ZBISF) @ US$1.21

This company has a market cap of US$249.53M and a production capacity of 131,300 kgs.

This licensed cultivator of medical and recreational cannabis was formed in January through an RTO merger of Bevo Agro, Inc. and Sun Pharm Investments Ltd. It has a coast-to-coast Canadian presence in both recreational and medical marijuana.

The company's stock graduated and commenced trading on the Toronto Stock Exchange on May 27, 2019. On June 5, Andrew Grieve, Chief Executive Officer, Zenabis Global Inc. (ZENA), joined Michael Kousaie, Vice-President, Strategy and Product Innovation, Toronto Stock Exchange and TSX Venture Exchange, to open the market.

For the first quarter of 2019, ended March 2019, Zenabis' EPS of -$0.01 beat estimates by $0.02 and revenue of $9.09M beat by $2.33M.

The company has plans to be one of the largest licensed producers of medical and recreational cannabis in the world.

 
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